Are you familiar with the term intrafamily loan? The low interest rate environment stemming from the 2008-09 recession created ideal opportunities for intrafamily lending. Our current environment has brought the concept back to the forefront with an additional need – cash to make a down payment on a home.
The intrafamily concept was simple in 2009: you had money in the bank, earning no interest while your children or grandchildren were paying 5-7% for their mortgages. The intrafamily loan moved you to the position of being the banker. You are now lending your children or grandchildren the money, you are receiving an increase in interest over what the bank would pay, and your family is paying less interest than what they would have had to pay the bank. The intrafamily loan did create a few challenges along the way. The loans were not always appropriately recorded, some never received payments, and other loans were forgiven. Overall, it was a win-win for the family…most of the time.
Sadly, things that we don’t expect often occur. That is why we have emergency funds built into financial plans for younger families. You may not expect a particular challenge – such as a pandemic or a lay-off – but things happen all the time. The intrafamily loans of 2008-09 were almost always attached to buying an asset like a home.
We live in an even lower interest rate environment now than we did in the great recession. The spread that banks will pay you on deposits versus what they will charge for mortgages, however, has tightened. That means there is less opportunity for you to increase income and decrease your heirs’ payments. The old expression “the juice may not be worth the squeeze” is possible. However, there are still situations where the intrafamily loan makes sense.
Families, in some instances, didn’t even have to make a down payment to buy a home in 2006. That fairy tale didn’t end so well and didn’t last long. Before the pandemic, a young family could buy a home with 3-5% down provided they pay for private mortgage insurance or PMI. One of the nation’s largest banks just announced that the minimum down payment would rise to 20%. That may be a good long-term strategy for the buyers and the bank, but short-term, it presents challenges for new buyers. Likely, property values will fall.
When interest rates are higher, payments are greater, and purchasing prices can be lowered to accommodate people’s ability to borrow. The same is true if a larger down payment is required. A house at $100,000 and 20% down payment requires $20,000. If the house were $125,000, they would need an additional $5,000 upfront.
The opportunity for you to help with a down payment with intrafamily loans makes sense if you have the ability and the willingness. The risk and uncertainties have increased for many reasons, but the opportunities have increased.
Rules should be followed and clear for both parties if you go this route. Paperwork needs to be filed, along with a clear understanding of how this works in the event something happens unexpectedly.
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