A parents’ guide to home down payment gifts and loans
It used to be that parents budgeted for post-secondary education or contributing to the costs of a child’s wedding. But now, I am increasingly finding parents planning for home down payment gifts.
The statistics support this and show an increase in down payment help in recent years. A study from a Canadian bank in June 2024 found that 31% of first-time home buyers received financial support from family, an increase from 20% in 2015. Financial support currently averages $115,000.
I encourage parents to be careful about gifting too much too early to their children. Being overly generous can discourage your children from making their own way in life.
There’s also a risk that you might need that money someday to fund your retirement, including long-term care costs. Your child could also have a relationship breakdown, which may mean that your gift does not stay in the family.
How to keep the money safe
A gift or inheritance received during a marriage may be exempt from division upon a relationship breakdown. But if the funds are not easy to track or are used to buy a matrimonial home, the assets may end up being split upon a divorce.
When parents advance funds for a child’s home down payment, mortgage lenders often require a letter stating that it’s a gift. Parents also have the option of lending their child money for a down payment; often, families document this with a loan agreement.
Case law has called into question whether a loan agreement is sufficient to protect funds advanced to a child in this way. If a loan does not bear interest and does not have repayment terms, a court may not agree that it’s actually a loan.
It’s probably advisable to register the loan as a second mortgage secured by the home, but this may not be sufficient on its own to support the loan’s legitimacy.
You should consider establishing a legitimate loan and/or having a child prepare a domestic agreement, also known as a pre-nuptial agreement. Signing a “pre-nup” is easier said than done, though. It can be a contentious process, and forcing your child and their partner to do so can be stressful for all parties involved.
Loan forgiveness is an option
If you loan money to a child, you can forgive the loan during your life or upon your death. Of course, you should only do so if you know you won’t need or want the money back in the future.
If you have loaned different amounts of money to your children, documenting the loans can help ensure an equal division of your estate. Some wills include a so-called “hotchpot” clause that accounts for all loans outstanding, so that one child does not receive a disproportionate gift or forgiven loan, as well as an equal share of the estate.
What are the tax implications of a gift or loan?
There are generally no tax implications to gifting in Canada. This differs from the U.S., which has a gift tax. U.S. citizens in Canada still need to be mindful of these U.S. implications. Only two situations may trigger additional income taxes for the parent: selling an asset at a capital gain or withdrawing an asset from a tax-sheltered account a registered retirement savings plan (RRSP/RRIF). But gifting itself has no tax issues with adult children.
If a loan to your child was for investment or business purposes, forgiving it can have tax implications. This is in part because loan interest on funds borrowed to buy investments or fund a business is generally tax-deductible for the borrower.
As a result, forgiveness of such a loan may lead to a capital gain for the lender—if it’s forgiven during your life. If the loan is forgiven upon your death, there should generally be no tax implications.
If you loan money to a child to invest and the loan does not bear the Canada Revenue Agency prescribed rate of interest—currently 5%—the income may be attributed back to you and taxable to you. You can give an adult child money to invest and not be subject to attribution. But if you loan it and can call it back without charging the prescribed rate, the CRA will attribute interest, dividends, rental income and business income back to you. Capital gains, however, are taxable to the child.
Before you loan or gift money for a down payment…
When considering a gift or loan, you should first and foremost be sure that you are in a position to help your kids without risking your own financial security.
There may be family law, estate and tax implications to making a loan. Seek legal and tax advice from a qualified professional to protect yourself and your family.
This article was written by Jason Heath and Cfp from MoneySense and was legally licensed through the DiveMarketplace by Industry Dive. Please direct all licensing questions to legal@industrydive.com.
