How to avoid becoming a bank for your family

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How to avoid becoming a bank for your family

It’s probably the best bank in the world for borrowers: Interest rates are zero, acceptances are guaranteed and often, the lender isn’t even expecting to be paid back.

It’s the Bank of Mom and Dad.

As the market has made it harder for buyers to find affordable housing, prospective homebuyers are turning to their friends and family for support.

According to a recent study by financial services firm Legal & General, 20% of homeowners across the U.S. said they received financial help from their friends and family to buy a home. If the Bank of Mom and Dad were a business, it would be the seventh-biggest lender in America. (Looking to buy a home? Check out our guide.)

This bank doesn’t just cover home down payments. It also provides assistance for car buying, college or medical treatments, to name a few.

While this unconventional way of borrowing can fulfill some buyers’ dreams of buying their first home, it can put a significant strain on parents’ financial wellbeing and divert money away from goals like retirement.

How lending can hurt parents’ financial futures

Some parents may feel more willing to help their children because they worry their children won’t be as well off as they are. In a survey by BMO Wealth Management, parents said their biggest concerns about their adult children were: financial problems like debt, ability to live independently and lack of employment.

“They become an economic surrogate,” said Doug Levasseur, national financial planning specialist at BMO Wealth Management. “Mom and Dad are funding your lifestyle. I think it’s certainly unprecedented in scale, but isn’t unique to the U.S.”

The same survey found 47% of parents would be willing to retire later and work longer to financially support their children. 34% said they would be willing to have a less comfortable retirement and 25% said they would be willing to take on debt.

“The implications on parent’s finances could be major,” said Levasseur.

How to avoid borrowing from the Bank of Mom & Dad

For parents, the best way to avoid the pressure to lend money is to communicate with your child and each other. John Godfrey, corporate affairs director for Legal & General, said if parents are realistic about how much they can feasibly lend their child, it will reduce the pressure later on to dip into their retirement savings.

“The golden rule of money is that you can only spend it once,” he said. “Both parties need to be aligned.”

Teaching your children basic money concepts at a young age can help them make financially smart decisions later. (We have 50 ways to teach your child about money here.)

Prospective homebuyers should take stock of their financial situation before turning to their parents for money. Consider looking for a smaller home or renting until you can afford one (and don’t fall into the trap of buying all the house you can afford).

Godfrey recommends applying for loans from traditional banks before turning to your parents. Though they may be happy to help, they likely aren’t considering their own financial future.

“Lets face it, parents don’t want their kids to suffer,” Thomas Rindahl, certified financial planner and advisor at TruWest Wealth Management Services, said. “Also, there is always the glimmer of perpetual hope. With one of my clients, she knew (her kids were) bleeding her dry, but she is convinced that their situation will change and that they will take care of her when she needs it.”

Just as supporting children late into adulthood can strain parents’ finances, caring for elderly parents can deplete a child’s financial resources. You can read our guide to financial planning to be a caregiver here.

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Image: Fabian Bank