Introduction & Summary
Executive Summary The “Bank of Mum and Dad” (BoMaD) is now one of Australia’s largest mortgage lenders, financing up to 60% of first-home buyers. However, operating in this space without a formal structure creates significant legal and financial risks.
Key Takeaways:
- Legal Risk: Without clear evidence, courts presume money from parents is a gift, not a loan.
- Divorce Risk: “Soft loans” (informal arrangements) are often disregarded by the Family Court and added to the asset pool for division.
- Tax Rules: Parents can lend interest-free, but if interest is charged, it must be declared as income.
- Security: A registered mortgage or caveat is the only way to secure priority over other creditors.
- Centrelink: Loans are assessed as financial assets and deemed to earn income, affecting pension eligibility.
The Legal Basics
Is a family loan legally binding in Australia? Yes. A family loan is legally binding if there is evidence of an intent to create legal relations. However, Australian law starts with the “Presumption of Advancement,” which assumes that transfers from parents to children are intended as gifts.
To prove it is a loan, the onus lies strictly on the parent to rebut this presumption with clear, contemporaneous evidence—ideally a written Loan Agreement.
What is the difference between a “Hard Loan” and a “Soft Loan”? The Family Court distinguishes between two types of family lending. This distinction is critical during a property settlement.
- Hard Loans (Commercial): These resemble arm’s-length bank transactions. They have formal written agreements, security (like a mortgage), and a history of regular repayments. The court treats these as genuine liabilities.
- Soft Loans (Informal): These are characterized by oral agreements (“pay me back when you can”), no interest, and no repayment history. Courts frequently disregard soft loans, treating the funds as a gift to the couple.
Warning: If a loan is deemed “soft,” the money you lent your child may be split with their ex-spouse in a divorce settlement.
Structuring the Loan
How to structure a family loan correctly To protect your wealth, you must move beyond the binary choice of “gift versus loan” and adopt a formal structure.
- The Agreement: A professionally drafted Loan Agreement is the minimum requirement. It must specify the loan amount, purpose, interest rate, and repayment triggers.
- The Statute of Limitations: Avoid “payable on demand” terms. In NSW, VIC, and QLD, a debt can become statute-barred (extinguished) after 6 years if no repayment or acknowledgement is made. Structure the loan with a deferred repayment date to avoid this trap.
- The “Charging Clause”: Ensure your agreement includes a charging clause, which authorizes you to lodge a caveat over the borrower’s property.
Calculating Repayments Documenting a repayment schedule is the best way to prove your loan is “Hard” and genuine. Even if the loan is interest-free, setting a fixed weekly or monthly payment creates a paper trail of performance.
Use the free Chipkie Family Loan Calculator to set a formal repayment schedule.
Family Loan Calculator
See how much you save with the “Bank of Mum & Dad”
Security Mechanisms
Should I use a Mortgage or a Caveat? Securing the loan converts you from an unsecured creditor to a secured creditor.
- Registered Mortgage: The “gold standard.” It gives you the statutory power of sale if the child defaults. However, banks rarely consent to a second mortgage behind their own.
- Caveat: A caveat prevents the child from selling or refinancing the property without your consent. It is cheaper and faster than a mortgage but does not grant a direct power of sale.
The “Risk Matrix” Table
Summary of Risks by Loan Structure Compare the legal and financial exposure of different lending structures.
| Structure | Divorce Risk (Asset Protection) |
Bankruptcy Risk (Clawback) |
Tax Risk (Income / Div7A) |
|---|---|---|---|
| Cash Gift | High Risk Asset is pooled |
Medium 4-5yr clawback |
None Tax-free |
| Unsecured Loan (Soft Loan) |
Med/High Often ignored by court |
Low Unsecured creditor |
Low If individual lender |
| Secured Loan (Caveat) |
Low Risk If properly drafted |
Medium No power of sale |
Low If individual lender |
| Registered Mortgage | Lowest Risk Priority creditor |
Lowest Risk Secured creditor |
Low If individual lender |
| Company / Trust Loan | High Risk Complex structures |
High Risk Complex structures |
High Risk Div 7A / UPE issues |
Table 1: Comparative risks of different family lending structures[cite: 99].
Tax & Centrelink
Tax Implications for the “Bank of Mum and Dad”
- Income Tax: Parents can generally lend to children interest-free without tax penalties. However, if interest is charged, it is assessable income for the parents.
- Deductibility: The borrower can only claim a tax deduction for the interest if the funds are used for income-producing purposes (e.g., an investment property), not a family home.
- Capital Gains Tax (CGT): Be careful when transferring property. If you transfer a property to a child for “love and affection” or a discounted price, the ATO calculates CGT based on the market value, not the transfer price.
Does lending money affect the Age Pension? Yes. Centrelink treats a loan to a child as a financial asset. Even if the loan is interest-free, Centrelink “deems” it to earn income at statutory rates, which can reduce your pension. If you forgive the loan, it is treated as a “gift” and subject to deprivation rules for 5 years.
