- Do bank bonds beat term deposits for savings for a house?
- Does separated woman taking a risk remaining in the family home?
- 3 Q&As about a father’s loan to a daughter and sibling rivalry
QI have a niece who is renting, and has been attempting to buy into the housing market in Auckland.
She has saved a deposit, but has been priced out of the area in which she is attempting to buy. Meanwhile the money is languishing in the bank earning little in the way of interest.
Any investment would need to be cashed up more or less on demand, if an opportunity arose to purchase.
I have suggested she looks at bank bonds, which would be relatively safe and tradable. You do not get much in the way of capital gain, but do get regular interest payments.
She will need to use a stockbroker. But I think for a time frame of 18 months or so that relatively small expense is justified.
What would you advise please?
AI would stick with either short-term bank term deposits, or a cash PIE fund from which you can withdraw your money at any time. PIE funds are taxed a bit more favourably, and sometimes pay higher interest after tax.
Why not go for higher returns in bank bonds? For one thing, in the uncertain current market, you won’t necessarily get higher interest. Even if you do, you are taking more risk.
A major risk with bonds is that, when you come to sell, you get less than you paid for them.
Let’s say you buy a bond that pays 5 per cent, and want to sell it a year later. If other bonds of similar risk are paying 4 per cent at the time, your bond will be in demand and you’ll sell it for more than you paid for it. But if other similar bonds are paying 6 per cent, nobody will want your bond unless you sell at a discount. You write about “not much of a gain”, but it could quite easily be a loss.
Another factor is the bank’s creditworthiness. If its credit rating drops — which suggests it’s riskier — you’ll get less on sale than you otherwise would have.
And if things got really bad, and the bank defaulted, it would fully pay its depositors and probably some other creditors before you got a cent back — although you would be paid before shareholders got anything.
Then there’s the time and expense of working through a stockbroker rather than a bank.
Is the possible extra return worth the risk and hassle? Maybe for people in a strong position to take some risk. But that doesn’t sound like your niece.
I suggest she keeps her eye on the prize — getting the house — rather than taking on a risk that could cut the amount she has to achieve that goal.
QThis is regarding the leading case in your column two weeks ago about the marital split and doing up the family home.
By remaining in the family home the freshly separated wife exposes herself to serious financial risk when it comes to eventually paying out her husband in a few years time. It seems the only practical way to do so is to sell the home, with her ex-husband due 50 per cent of its value at the time of separation.
If the home is worth $1 million at the time of separation, he is due $500,000. In five years, if the house sells for $1.5 million, she gets $1 million, while her ex-husband still gets the agreed $500,000. However, if house prices have slumped and it sells for only $600,000, she will walk away with only $100,000.
It would be far safer to sell the house right now and shift to a cheaper home.
AFortunately for our correspondent, your scenario is not the way it’s usually done.
“The Property (Relationships) Act 1976 provides that property is to be valued at the date of division,” says Deborah Chambers QC. “Division” is when the property is divided up — in this case when the house is sold or when it’s transferred from husband and wife to just one of the spouses.
“The court has a discretion, and there are a few exceptions to that rule, for example bank accounts are obviously valued at separation, and sometimes private company shares. But, particularly in regard to real estate, it is always valued at the time of division,” says Chambers.
“The two owners effectively ride the market, the ups and the downs, until division, because of course they both still have equity in the property. The husband would normally get 50 per cent of the value of the home from sale proceeds (if it is sold) or at the time of settlement under an agreement to divide property.”
Typically, each partner would get half the equity “after repayment of mortgages, reasonable real estate agents fees, solicitors’ costs and any agreed maintenance to improve the property or ready the property for sale,” she says.
While your issue shouldn’t be a problem for our correspondent, Chambers points out another issue.
“One of the things the wife needs to watch for is how she and her husband are going to resolve who gets the increased value from improvements she makes, such as making the garage a separate living space.
“She could either say to him, ‘Let’s do this together and you pay half and then when we sell the house in two years’ time we will divide all of the equity,’ or she could say, ‘If I do that improvement post-separation, then we will need to get a valuer to tell us at the time of division how much that improvement has increased the value of the house, so that I get an increased share in the value of the house when we do finally divide the equity.’
“Either way, she needs to talk to her husband about making sure that her post-separation improvements are accounted for fairly to her before she embarks on them,” says Chambers.
QI feel very strongly about your reply last week to the question regarding sibling rivalry.
I believe this needs to be looked at as an arms length transaction. The parents are lending money to their older daughter at a better interest rate than they can achieve from the bank. This just happens to also benefit their daughter, as she will pay less than she would pay to the bank.
If, in the future, the younger daughter wishes to borrow money, then half the older daughter’s loan would need to be repaid (and she would need to refinance through a bank). This money could then be lent to the younger daughter using the same method — halfway between the potential investment rate and loan rate.
I can’t see why the younger daughter should be “paid out” — it seems like a simple case of jealousy to me!
AI can see where you’re coming from. I can also see where the younger daughter is coming from. It’s tricky.
For those who missed the Q&A, the father wants to treat his two daughters fairly. We looked at a situation in which the father can earn 4 per cent from the bank and the older daughter must pay 8 per cent for a loan to invest in commercial units.
Under Plan A, the father lends to the older daughter at 6 per cent. But the younger daughter wants to gain equally. So Plan B is for the father to lend to the older daughter at 7 per cent, and then pay 1 per cent to the younger daughter. Each daughter is then 1 percentage point better off. And the father still receives 6 per cent (7 minus the 1 per cent paid to the younger daughter).
But you’re not the only one who doesn’t like my idea. Read on.
QI thought the answer to the first question last weekend was too soft. You should have said that the father should tell his younger daughter to take a running jump. If the daughter had a problem with what was proposed then there will be other issues that come up in the future where there will be bigger problems.
The concept of the father (effectively the older daughter) giving the younger daughter something for doing nothing, taking no risk etc is a terrible precedent.
AI reckon there might be bigger future problems if the father doesn’t give the younger daughter some of the action. Resentment can build over time.
On your point about risk, the father is certainly raising his risk. If his daughter’s investment doesn’t work out she might be unable to repay him.
But the older daughter’s risk is not raised by borrowing from her father instead of the bank. So why shouldn’t the younger daughter also gain without taking risk?
Maybe, though, the father should charge 7.5 per cent and give 0.5 per cent to the younger daughter — to compensate for the fact that he’s the one raising his risk.
QI would like to comment on your response to the letter regarding sibling rivalry and your Plan B in last week’s column.
Surely you and the family are approaching the issue from the wrong point of view. It is not what the older sister gains from her investment that matters; it is what she is contributing to the family for the use of the money that counts.
In your Plan A, she is paying 2 per cent, i.e. $10,000 per annum, more into the family funds than her father could earn at the bank. The father is not giving her 2 per cent, she is giving her father 2 per cent.
At the end of the day, the father’s estate will be worth more by virtue of that extra 2 per cent. The younger daughter will receive her share of that when she inherits. The father should be able to invest however he likes, and he will decide if the rate of return fairly rewards him for the risks he takes.
The younger daughter’s only concern should be the level of security of the loan.
I cannot think of any other investment her father could make, where the daughter could demand of the borrower that they share their profit from the investment with her. I’m sure no bank, finance company or private equity fund would pay the younger daughter an extra 1 per cent on the money her father invested with them.
If you know of one, please let me know!
AYou assume the two daughters will inherit from their father. However, he and his wife might be planning to SKI — spend the kids’ inheritance. If they receive more interest from their daughter, they might simply SKI harder!
Even if the daughters will inherit, under both Plan A and Plan B the father — and thence the estate — gets the same 6 per cent on his money. The difference is just how the daughters divide their gain.
You could, perhaps, look at the younger daughter’s deal under Plan B as compensation for the fact that her father is risking money she might inherit.
More on this topic next week.
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Mary Holm is a freelance journalist, a director of Financial Services Complaints Ltd (FSCL), a seminar presenter and a bestselling author on personal finance. From 2011 to 2019 she was a founding director of the Financial Markets Authority. Her opinions are personal, and do not reflect the position of any organisation in which she holds office. Mary’s advice is of a general nature, and she is not responsible for any loss that any reader may suffer from following it. Send questions to [email protected] or click here. Letters should not exceed 200 words. We won’t publish your name. Please provide a (preferably daytime) phone number. Unfortunately, Mary cannot answer all questions, correspond directly with readers, or give financial advice.