What is the Bank of Mum and Dad Guide?
This Bank of Mum and Dad Guide is a comprehensive resource for Australian families lending money to children. It bridges the gap between informal family support and strict commercial law, covering the legal distinction between gifts and loans, tax implications under Division 7A, and asset protection strategies to safeguard intergenerational wealth from divorce and bankruptcy.
1. Executive Overview: The Rise of the “Fifth Pillar”
The Australian housing market has undergone a structural transformation. With wage growth decoupling from property prices, a new financial power player has emerged: the “Bank of Mum and Dad” (BoMaD).
This isn’t just about casual pocket money. BoMaD has evolved into one of the nation’s top mortgage lenders, financing up to 60% of first-home buyers. With average contributions hitting $74,000 and frequently topping $100,000 in capital cities, families are transferring intergenerational wealth at record rates to help the next generation bridge the deposit gap.
The Risk: This phenomenon operates in a regulatory grey zone. While it acts out of love, BoMaD is effectively an unregulated financial institution. It lacks the compliance frameworks of traditional banks but faces the same severe penalties under the Income Tax Assessment Act, Family Law Act, and Bankruptcy Act if mismanaged.
This Bank of Mum and Dad Guide serves as your playbook. We move beyond “gift vs. loan” to explore sophisticated structuring, protecting your wealth from tax triggers, relationship breakdowns, and insolvency.
2. Legal Characterization: What Is the Transaction?
The most critical question in this guide is how the law defines your transfer of funds. This isn’t determined by what you felt at the time, but by the objective evidence available in a courtroom years later (usually during a divorce or bankruptcy).
2.1 The Presumption of Advancement vs. Resulting Trusts
Australian equity law uses historical presumptions to determine ownership when money moves without payment. This decides who bears the “onus of proof.”
- The Presumption of Advancement (The “Gift” Default): When a parent transfers money to a child, the law presumes it is a gift for their “advancement.”
- The Trap: If you transfer $200k for a deposit and your child divorces, the onus is on you to prove it wasn’t a gift. Without clear documentation, the court will likely rule it a gift, putting the funds into the matrimonial asset pool to be split with the ex-spouse.
- The Presumption of Resulting Trust: When unrelated parties transfer property without payment, equity presumes the recipient holds it in trust. However, proving a trust existed after the fact without documentation is incredibly difficult against the presumption of advancement.
2.2 The “Genuine” Test: ATO and Centrelink
Regulators look at substance over form.
Characteristics of a Genuine Gift
To be tax-exempt for the recipient, it must meet strict criteria:
- Voluntary: No coercion.
- No Material Benefit: The donor gets nothing in return (no rights to live in the property).
- No Expectation of Repayment: Absolute divestment of ownership.
- Warning: The ATO cracks down on “gifts” that are actually disguised foreign income.
Characteristics of a Genuine Loan
To be recognized as a loan (essential for interest deductibility or avoiding deprivation rules), it needs commercial DNA:
- Documentation: A written agreement executed at the time of the advance.
- Performance: Actual repayments made. A loan that is never repaid is viewed as a “sham.”
- Independence: Funds sourced independently.
2.3 Family Law: “Soft” vs. “Hard” Loans
In property settlements, the Family Court distinguishes between two types of liabilities. This distinction is a core focus of our Bank of Mum and Dad Guide.
- Hard Loans: These look like bank loans. Formal written agreements, registered mortgages, strict repayment schedules, and demands for payment upon default. Result: The court treats these as genuine debts, deducting them from the asset pool before division.
- Soft Loans: Informal arrangements (“pay me back when you can”). No interest, no written terms, no repayment history. Result: Courts frequently disregard these, adding the value back into the asset pool. Your contribution gets split with the departing in-law.
The Rule: To protect family wealth, you must act with the commercial rigidity of a bank.
3. Structuring the Arrangement: Documentation and Security
Informal “handshake” deals are the primary cause of asset loss. Here is the architecture of a safe loan.
3.1 The Loan Agreement: Essential Clauses
A professionally drafted Loan Agreement is the minimum viable product. Don’t rely on basic templates.
- Principal and Purpose: Clearly state the amount and use (e.g., “purchase of 123 Smith St”) to help trace funds for constructive trust claims later.
- Interest Rate: A nominal rate (even CPI) strengthens the “Hard Loan” argument. Note: If you charge interest, you must declare it as income.
- Repayment Trigger: Specify when repayment is due (fixed date, regular schedule, or upon sale/divorce).
- The “Charging Clause”: Crucial. This grants the lender an equitable interest in the property, authorizing you to lodge a caveat. Without this, lodging a caveat can lead to damages for “lodging without reasonable cause.”
The Statute of Limitations Trap:
In NSW, VIC, and QLD, the limitation period for simple contracts is 6 years. For loans “payable on demand,” the clock starts the day the money is lent. If you lend in 2015 and demand payment in 2022, the debt may be legally extinguished.
- The Fix: Structure the loan with a deferred repayment date (e.g., “Repayable 10 years from today”) or ensure the borrower signs a formal acknowledgement of debt every few years.
3.2 Security Mechanisms: Mortgages vs. Caveats
Security converts you from an unsecured creditor (paid last) to a secured creditor (paid first).
| Feature | Registered Mortgage | Caveat |
| Status | The “Gold Standard.” Registered on title. | Statutory injunction protecting an interest. |
| Power | Grants statutory power of sale (you can sell the house). | Prevents other dealings (stops them selling) but no power of sale. |
| Priority | Absolute priority over unsecured creditors. | Priority depends on timing; can be trumped by a mortgage. |
| Difficulty | Banks (1st mortgagee) rarely consent to 2nd mortgages. | Cheaper, faster. Can be lodged without bank consent. |
3.3 The “Gift Letter” Estoppel
Banks often demand a “Gift Letter” stating funds are non-repayable to approve the child’s mortgage.
- The Conflict: If you sign this for the bank but hold a secret Loan Agreement, you risk committing mortgage fraud. In Family Court, the ex-spouse will use the Gift Letter to prove the funds were a gift, overriding your loan agreement.
- Strategic Advice: You must choose. If you sign the Gift Letter, accept the funds are legally gone. If you need repayment, refuse the letter (which may lower the child’s borrowing power).
4. Taxation: Income, Capital Gains, and Deductions
Family lending triggers a web of tax implications detailed in this guide.
4.1 Income Tax and Interest
- Interest-Free: Unlike the US, Australia generally allows interest-free private loans without imputing “market rate” income to the parent.
- Interest-Bearing:
- Lender: Interest received is assessable income.
- Borrower: Interest is only deductible if funds are used for income-producing purposes (investment property), not a private home. Tracing is strict—don’t mix funds.
4.2 Division 7A: The Corporate Trap
If sourcing funds from a family company, watch out.
- Deemed Dividends: A loan from a private company to a shareholder/associate is treated as a tax-free profit distribution unless it complies with Division 7A.
- Consequence: The entire principal is taxed as an unfranked dividend in the child’s hands.
- The Fix: A written agreement meeting Sec 109N: Minimum interest rate, maximum term (7 years unsecured, 25 secured), and minimum yearly repayments.
4.3 Capital Gains Tax (CGT) & Market Value Substitution
Parents often try to transfer property “cheaply” to help out.
- The Rule: The ATO ignores the transaction price if parties are not at arm’s length. CGT is calculated on the Market Value at the time of transfer, not the $1 you sold it for.
5. State-Based Transfer Duty (Stamp Duty)
Myth Buster: Transferring property to family is not automatically duty-free.
5.1 Residential Property
In most states (NSW, VIC, QLD, SA, TAS, NT, ACT), transferring an investment or holiday home to a child attracts full ad valorem duty on the market value.
5.2 Spousal Exemptions
Transfers of the “Principal Place of Residence” between spouses/de facto partners are generally exempt in NSW, VIC, QLD, WA, and ACT (conditions apply).
5.3 The Family Farm Exemption
Farming families have access to robust exemptions (Intergenerational Rural Transfer) in all states (VIC, NSW, QLD, WA, SA, TAS) to keep the land in the family, provided strict “primary production” tests are met.
6. Social Security: Centrelink and Aged Care
Lending impacts your Age Pension.
6.1 Gifting vs. Deprivation
- Limits: You can gift $10k per financial year (capped at $30k over 5 years).
- Deprivation: Anything above this is a “deprived asset,” counted in your assets test for 5 years and subject to deeming.
6.2 Loans and the Assets Test
A loan is not a gift; it is a financial asset.
- Assessment: The principal is assessed as an asset.
- Deeming: Centrelink “deems” the loan to earn income (even if it’s interest-free), which can reduce your pension.
- Forgiveness: Forgiving the loan turns it into a “gift” instantly, triggering the 5-year deprivation clock.
6.3 The Granny Flat Exemption
A powerful strategy: Parents transfer assets to a child in exchange for a permanent “Granny Flat Interest” (right to reside).
- The Win: If the value is “reasonable” (based on a Centrelink formula), it is exempt from deprivation rules. Since July 2021, these are also generally CGT-exempt if structured correctly.
7. Relationship Risks and Estate Planning
Money changes dynamics.
7.1 Managing Jealousy: The “Hotchpot” Clause
Lending to one child creates imbalance.
- The Solution: Insert a “Hotchpot” clause in your Will. It directs the executor to add lifetime loans back into the notional estate pool before calculating shares, ensuring fairness among siblings.
7.2 Divorce Protection: Binding Financial Agreements (BFAs)
A BFA (Prenup) allows a couple to quarantine the parental loan or property from the matrimonial pool. It binds the Family Court if executed correctly.
8. Strategic Recommendations: Your Chipkie Checklist
To navigate the BoMaD landscape safely, follow this execution plan.
Phase 1: Assessment & Intent
- Capacity Check: Can you afford to lose this money? If no, do not lend without registered security.
- Gift vs. Loan: Decide now. Gift = Simple but risky. Loan = Complex but protective.
Phase 2: Structure & Documentation
- Draft a Formal Agreement: Use a professional format. Include the Charging Clause.
- Manage the Clock: Avoid “payable on demand” unless you have specific trigger clauses to handle the Limitation Act.
- Secure It: Register a mortgage or lodge a caveat immediately.
- BFA: Encourage the child/partner to sign a Binding Financial Agreement.
Phase 3: Compliance & Management
- Bank Strategy: Decide on the “Gift Letter” approach (understand the estoppel risk).
- Estate Update: Update Wills with Hotchpot clauses.
- Record Keeping: Maintain a ledger of repayments. This is your best evidence of a “Hard Loan.”
9. Frequently Asked Questions (FAQ)
Q: Does the “Bank of Mum and Dad” have to charge interest?
A: Generally, no. Australian parents can lend to children interest-free without the ATO charging tax on “market rate” interest (unlike in the US). However, if you do charge interest, you must declare it as taxable income.
Q: Can a loan be turned into a gift later?
A: Yes, via a Deed of Forgiveness. However, be careful: forgiving a loan is considered a “gift” by Centrelink (triggering deprivation rules for 5 years) and may have Commercial Debt Forgiveness tax consequences if the loan was used for business.
Q: Will a loan from my parents affect my borrowing capacity with the bank?
A: Yes. Banks view a parental loan as a liability, which reduces your serviceability. This is why banks often ask for a “Gift Letter” confirming the money does not need to be repaid.
Q: What happens to the loan if my child gets divorced?
A: If it is a “Soft Loan” (undocumented, no repayments), the Family Court will likely ignore it and split the money with the ex-spouse. If it is a “Hard Loan” (documented, secured, repaid), it is treated as a debt and paid back to you before the assets are divided.
Q: How do I protect my loan if the bank won’t allow a second mortgage?
A: You can lodge a Caveat on the title. While not as powerful as a mortgage, it prevents the property from being sold or refinanced without your knowledge. Ensure your loan agreement has a “Charging Clause” to allow this.
Q: Is the Bank of Mum and Dad regulated?
A: It is an unregulated financial practice, meaning you don’t need a banking license to lend to your own kids. However, you are subject to the National Credit Code if you lend repeatedly or purely for profit, and you must comply with all standard Tax and Family laws.
