When funding is provided by a family member, is it essential to agree in advance whether the money is a gift or loan. If the money is a loan and repayable in the future – it is essential that this is reflected in a commercial agreement so that the individual lending the money is protected as much as possible. Even then there is no guarantee the court will factor in the debt when deciding the division of assets.
We are seeing increasing numbers of clients who have had to rely on family loans to meet the costs of navigating through their divorce and financial proceedings and meet their day-to-day expenditure when their spouse is no longer contributing to the family home. In these circumstances, the family member lending the money often expects to be repaid at the conclusion of the financial settlement.
The court's approach to the treatment of such lending is unclear and should be approached with caution. It is often the case that the ex-spouse claims that the money was in fact a gift which does not require repayment or is a "soft loan" which the court should disregard. In the case of P v Q (Financial Remedies) [2002] EWFC B9, HHJ Hess confirmed that for a payment to be considered as a gift, there must have been evidence of an intention to give. There must not be any strings attached to the payment of money and there must be no intention for the recipient to repay the money in the future. If you cannot prove that the payment was a gift, the next step is to consider whether the loan was soft or hard.
It is important to discuss with your lender (often a parent) whether they expect to be repaid for any monies lent and to be aware of the court's ambiguous approach to considering family loans. If your lender expects to be repaid, it is essential that you cement the terms upon which you have been lent the money at the time of the loan, as it is not unusual for the ex-spouse to assert that the money was either a gift of a soft loan which does not need to be repaid (or can be repaid over time) and therefore does not need to be considered as part of your financial settlement. If the Court treats the loan as a soft loan, then the borrowing spouse runs the risk that they will be left in a situation where the financial settlement does not provide them with enough funds to repay the lender at the conclusion of the proceedings.
Where a loan is disputed between parties, the Courts are tasked with ascertaining whether the loan should be treated as a soft or hard debt and must consider what the likelihood is that the obligation to repay the loan will be enforced by the lender (often a parent). Each case will turn on its own facts, and case law does not give us a clear test to determine whether the loan is hard or soft. However, in the case of P v Q HHJ Hess' judgement assists by outlining a non-exhaustive list of factors to help determine whether there is a real repayment obligation, which includes whether:
- It was provided for by a friend or family member with whom the borrower is on good terms.
- The lender is unlikely to want the borrower to suffer hardship.
- There are any interest charges or end date.
- There is a reasonable probability of having the repayment of the loan waived.
- Any written demand for repayment has been made.
- There has been a delay in enforcing the obligation of repayment.
The court's approach to familial loans is often that it is unlikely that the lender will sue the recipient to achieve repayment of the loan in the future and the Court therefore won't necessarily take the loan (or the entirety of the loan) into account when deciding a settlement.
In contrast, if the Court considers the loan to be a hard loan (as it would with a commercial debt such as a credit card or bank loan), then it is treated as a liability which one or both parties need to repay and will be factored into the financial settlement.
How to ensure a loan is factored in as a hard debt
To protect money loaned to you, it is paramount you agree with the lender the terms of the loan in advance. For the Court to take the loan into consideration, there must be a real expectation that the money will be repaid (either in part or in full) at some point in the future and if you fail to repay, then your lender will enforce your obligation to repay which is difficult to prove in family matters.
- The formal loan agreement must make it clear the amount that you have borrowed and the terms of repayment.
- To add weight to this, your lender could secure the loan by way of a legal charge over a property you own, which would give them the power to seek an order for sale if they were not repaid provided there is sufficient equity in the property at the time of sale.
However, it is important to note that there is a risk that the loan may still be held by the Court as unlikely to be enforced (particularly in situations where the terms of the agreement have not been followed and the date of repayment has passed, and the lender has not sought to enforce the terms of the agreement).
It is essential when any paperwork is drafted the terms of repayment and what will happen if the loan is not repaid on time is set out clearly and followed through, so you are in the strongest position to repay your lender. In all cases, if the resources available in the case are needed to meet the needs of both parties, this will be the court's priority – a loan agreement between family members may not be sufficient for the court to ensure funds are set aside to repay it when it comes to a financial settlement if to do so would restrict the ability to meet the needs of the parties.
If possible, in advance of a final hearing, you could consider borrowing the funds required to repay your family member from a commercial lender so that there is absolutely no argument against it being considered a hard debt. Litigation loan companies offer loan facilities in certain circumstances without monthly repayments, and this could be an option to consider, although interest rates are high at c. £18-24%. However, it is important that you take legal advice before repaying any familial loans because doing so may also be seen by the court as being an intentional act to put those funds beyond the reach of the family court. In this situation, the court could seek to undo that payment, or make decisions regarding the distribution of other assets on the basis that you had not repaid the familial loan.
It is essential to seek early legal advice if you are considering borrowing money from a family member to avoid being left in a situation where you cannot afford to repay them. You may wish to explore commercial lending (which the Court will recognise must be repaid) before going down this avenue, despite the interest that will be incurred given the risks outlined above.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.