How to help your children buy a house

It’s hard to avoid the topic of Canada’s real estate market these days. From the media to conversations with friends and neighbours, it seems everyone is talking about how expensive homes have become.

Thanks to rock bottom interest rates, speculation, and an influx of foreign buyers into some regions, the market was already hot before the pandemic. Then, lockdowns added fuel to the fire by encouraging people to buy larger living spaces for a home office, work-out area and inhouse entertainment centre.

The average selling price for a home in Canada was $696,000 in April 2021, up 41.9% in a year. This figure, while much reported in the media, is misleading because averages are distorted by regional and house type differences in the mix of sales activity from month to month.

If you look at indices with more disciplined methodologies the numbers are more reasonable, though the year over year price growth is still strong. A more rigorous gauge of price growth for similar properties is the Canadian Real Estate Association’s MLS Home Price Index (CREA HPI), which is adjusted to control for region and type of home. The non-seasonally adjusted CREA HPI was up 23.1% year-over-year in April. Another index that controls for regions and home type, the Teranet-National Bank Composite House Price Index, was up 11.9% year over year in April.

Good data provides a healthy dose of temperance in a volatile market. The Teranet index is the more reliable measure since it is based on land registry data of actual property transfers. The CREA index relies only on sales processed through the MLS system, prior to the actual land transfers. That means that private sales and sales that fall through at signing aren’t properly captured by the CREA index.

Canadian home prices have rocketed far ahead of other developed countries like the U.S., Britain and France, according to the OECD. Some observers are talking about a bubble and the Bank of Canada appears to be increasingly worried about the amount of debt household are taking on to buy homes, calling it “a key vulnerability” for the economy.

Certainly, high real estate prices are good for the net worth of those who are already in the market. But even as they marvel at how much their property has appreciated, many homeowners worry about how young people are ever going to afford a home without taking on massive debt.

Increasingly, parents are stepping in to help their adult children—a situation that may be contributing to the upward price spiral. This Globe and Mail article says some parents are even taking out reverse mortgages on their home to help a child put together a down payment for a house (a practice we strongly discourage for a variety of reasons).

Many parents are able to help. However, helping adult children with the cost of buying a home is not a decision to be taken lightly. If you are considering going down this path, you must first and foremost ensure that giving money to your kids won’t jeopardize your own financial health and retirement. You should be particularly cautious if you already have debt and/or are planning to borrow more to finance your child’s home purchase.

Once you’re sure you’re in a position to help, here are three ways to do it.

1. Loan your child the funds—This is the usually the best option. You will need to write a formal loan agreement with your child. It should stipulate the amount of the loan, terms for repayment, the interest rate payable and when interest is due. If you do charge interest, that money becomes taxable income in your hands. The attraction of a loan for many parents is that the funds are protected in case of a breakdown in your child’s relationship. The money becomes a debt against the family assets that the parents can call back in case the relationship doesn’t work out.

2. Co-sign the mortgage—You can help your child get a mortgage by co-signing for the loan. Co-signing a mortgage means you are guaranteeing the debt. In the event your kid can’t pay, you will be responsible for it. If you go this route, it’s important to also get your name put on the property deed. This will provide a measure of security for the risk you are taking, but it also means you share the legal liability if something goes wrong with the home. There are a couple of other points to watch out for. First, co-signing a mortgage could affect your existing mortgage if you have one. Second, you may not be eligible for the principal residence exemption on capital gains on your child’s home. So, be aware you could be facing a tax bill in the future on any increase in the property’s value.

3. Give the money as an outright gift—You can simply give your child a sum of money to use for a down payment. While there is no tax payable on gifts in Canada, this is usually not an option I recommend. That’s because the money is not protected in the case of breakdown in your child’s relationship. The money becomes part of the family patrimony to be split between the couple once it is used to buy a house. Of course, if this is not a concern for you, this would be the simplest way to help.

Is Canada’s residential real estate market in a bubble? Asset bubbles are notoriously hard to identify before they pop. Even if we are in a bubble, it could go on inflating for much longer than anyone expects.

We have no way of knowing where the market is headed, but if you are considering helping an adult child buy a home, make sure to get advice on your options from a qualified professional before making a decision.