In the current economic climate, family members are becoming more and more likely to loan money to each other. Commonly these loans will be from the “bank of mum and dad” in order to help an adult child get onto the property ladder. Children also loan funds to their parents, for example if a divorce leaves the parents with insufficient funds to purchase two new homes. In these circumstances, the loan will typically be secured over the property being purchased.
What should a lender consider when making a secured loan to a family member?
The first thing to note is that any loan made by a person to a family member, which is secured over a property to be occupied by the borrower, is likely to be a “regulated mortgage contract”. This often comes as a surprise to family members making loans to each other but if the loan to be advanced involves the provision of credit to an individual and the following apply:
- the contract provides for the obligation of the borrower to repay to be secured by a mortgage on land in (within the UK); and
- at least 40% of that land is, or is intended to be, used as a dwelling,
the regulations are triggered and the agreement is, on the face of it, captured by the FCA’s mortgage regime.
Are you making the loan by way of business?
The regime requires any person who carries on a specified activity (such as providing credit under a Regulated Mortgage Contract), by way of business, to be authorised by the FCA or exempt. There is no specific definition of the “business test” but the payment of interest (or lack of) is not the only consideration, neither is the scale of the activity. There are a number of factors that need to be considered.
However, it is generally clear that loans between family members will, ordinarily, driven by love and affection and not made by way of business. However, some cases will more detailed analysis and loans between friends can be more complicated.
Even if the activity is not “authorised”, the agreement will remain a Regulated Mortgage Contract. However, the rules and guidance in the FCA Handbook apply only to “a firm” that is defined as an authorised person (MCOB 2.1.1R).
On that basis, if the loan has not met the business test, the MCOB rules will also not apply. If so, this means that the loan agreement will not be subject to any particular drafting or procedural requirements and only a “light touch” regime will be applicable.
Notwithstanding the fact that only a light touch drafting regime will apply it is always a good idea to ensure that the terms of the loan are in writing as this will ensure that the terms (such as duration, interest and default) are clearly identified. We would also recommend giving consideration to updating any wills.
One final point to consider is that borrowers do have court protection by way of time orders and unfair relationships. This applies to family loans. Borrowers can, for instance, request an order from the court to vary the amount of repayments and the period for the borrowers to remedy any breach. The courts also have a wide power in respect of unfair relationships and this requires a lender to disprove the existence of such a relationship once asserted by a borrower. If an unfair relationship exists the court has broad powers to remedy it as it sees fit.
To discuss any matters relating to the above or any other commercial or corporate requirements, please contact Greg Vincent, Partner in the Corporate and Commercial Team on 0208 971 1033 or by email on [email protected]