Avoid Becoming the Bank of Mom and Dad
You spend your whole life raising your children to be self-sufficient. You give them your time, your love, and your money to set them up for success. So, what do you do when your now-adult-child asks for financial aid?
As more baby boomers retire, many find much of their savings went to helping their adult children in financial difficulty. It’s a parent’s instinct to want to help a child, but if you’re living on your retirement savings or actively contributing to your retirement needs, you need to be careful. If you decide to provide financial help to your child or grandchild, here are some guidelines to follow to avoid jeopardizing your financial security.
Loan or a gift? Parents often have the intention to make their child repay the money but fail to follow through. Under current IRS guidelines, you can gift up to $15,000 a year (for 2020) without filing a gift-tax return. Work with your child to identify what budgeting or behavioral gap your gift is helping with. That way, they don’t look to you each time they get overwhelmed with expenses or debt. Be sure to clearly state whether it is a loan or a gift at the time it’s given so everyone has a clear understanding.
Focus on the essentials. Offer to help with only critical bills, such as health insurance or car insurance, so coverage is never lost. If you decide to help your children only in an emergency, make sure you stick by this. Explain to them in detail what you consider an emergency and avoid granting any assistance unless it constitutes what you both agreed upon originally.
Formalize the process. It’s in everyone’s interest to formalize the specifics of a loan, particularly for a large dollar amount. It may be awkward the first time. Your child or your spouse may wave away a formal process as unnecessary. But leaving a loan open-ended reduces the likelihood you’ll be repaid, and that can create challenges down the road. Write all the details of the loan down, including the purpose, amount, and repayment schedule. It wouldn’t hurt to have you both sign everything once the agreement is made. Lastly, consider if charging interest is worthwhile, it can help to reinforce the cost of needing financial assistance.
Be in charge of your home. If you allow your children to move back in, make sure they know what you both expect before moving in. Consider a written agreement that outlines rent or expectations for help with household upkeep. One idea is for parents to let their kids stay at home for a given number of months, then begin to charge rent after that. Set a target end date or a set of conditions that would necessitate the child to move back out – such as finding a job at a specific income level.
Weigh other options. If you are considering tapping into your retirement savings to help your child financially, look at every other available option first. While you may feel it necessary to pay for a child’s college education, pulling from retirement funds should be a last resort. Students have access to grants, scholarships, low-interest deferred loans, and student employment. They also have a longer time horizon to pay off student loans. The opposite is true when it comes to your retirement savings.
It’s natural to want to help your child or grandchild during times of financial hardship. With planning and guidance, loaning or giving your child money can also be well executed without burdening your finances and escalating familial stress. We can help you determine the impact a gift or loan may have on your future retirement plans so please don't hesitate to reach out.