Is it a gift or a loan?

Following the breakdown of a marriage or a de facto relationship, parties will find themselves in a situation where they need to cut ties and go their separate ways. However, one obvious obstacle preventing this is the need for them to divide up their combined assets and liabilities.

An issue which arises when trying to determine what assets and liabilities should be included in the matrimonial asset pool, is the classification of monies received by a third party, namely whether it should be classified as a loan that will need to be repaid or whether it should be deemed a gift, which will not need to be paid back. This could have serious consequences to the makeup of the asset pool available for distribution between the parties.

This situation commonly arises in the following situations:

1                  Where parents lend their child money for the purchase of a home or for another reason;

2                  Where a friend lends one of the parties monies to assist them; or

3                  Where one sibling lends the other monies.

As a starting point the Full Court established in Biltoft and Biltoft (1995) FLC 92 - 614 the principle that some debts may be disregarded in some cases, when it stated:

There is no requirement that the rights of an unsecured creditor or a claim by a third party must be considered and dealt with prior to the Court making an order under section 79, nor is there a rule of priority as between a creditor claimant and a spouse. Those rights, however, cannot be ignored. They must be recognised, taken into account and balanced against the rights of the spouse. That was the approach adopted by the trial judge. In this case, there are uncertainties surrounding the debt, including the reluctance of Mr Horrocks to negotiate as to an amount, to institute proceedings for its recovery or to seek a stay of the proceedings in this Court. These factors must form part of the balancing of equations.

Furthermore in the 1981 decision of Af Petersens & Af Petersens 1981) FLC 91-095, Nygh J stated:

It is fairly common in this court to meet a situation where a parent has made a loan to a child which is in all respects legally enforceable, but which is not in fact enforced and would not be really be expected to be enforced. It is no doubt an “obligation” but if the obligation is not likely to have to be met, it should not be taken into account.

The law thus recognised the category of debts owed by a friend or a relative usually have vague evidence and vague intentions of repayment, making them contentious liabilities when considering if they should be included in the asset pool available for distribution by the parties.

In the relatively recent case of Pelly & Nolan [2011] FMCAfam 530 the Full court dealt with the classification and quantification of monies given by the father of the husband (the Father) to the husband in the matter. The husband claimed the monies were a loan, whereas the wife contended they were monies advanced by the Father without any real intention of repayment and should correctly be classified as a gift. The short facts of this matter are as follows:

1                  The Father loaned over the years large amounts of monies to the husband. These were either personally or through his entities. The Court accepted the following monies were advanced by the Father to the husband:

1.1              $250,000 from the B BTY Ltd as trustee for the Pelly Trust for the purchase of property A (“the $250,000);

1.2              $70,000 from the B BTY Ltd as trustee for the Pelly Trust for the purchase of property B (“the $70,000”);

1.3              $101,000 for living expenses; and

1.4              $74,000 for various other expenses including purchase of a motor vehicle and renovations to the properties purchased by the husband.

2                  The $250,000 was recorded in a loan agreement between the father and the husband with specified times for repayment and interest rates. The $70,000 was recognised by the court as being an additional advance of monies pursuant to the original loan agreement.

3                  The Court found Husband made repayments towards the $250,000 advance between $5,000 and $20,000.

4                  The $250,000 and $70,000 advancements were also registered in the trust loan account when the husband purchased the second property.

5                  The Court further found that on a balance of probabilities the Husband intended to repay the combined debt of $320,000 and would be in a position to do so.

6                  The Court ultimately found that both these amounts should properly be classified as loans and thus be included in the property pool as a liability which the husband will be responsible to repay.

7                  The Court did however find that there was no intention for the interest on the loan to be repaid and therefore did not include this amount in the quantum of the liability.

8                  The Court found that the other amounts advanced by the father were not loans and should be classified as gifts, given there was no finding the advanced monies were intended to be repaid.

Lavan Legal comment

From Pelly & Nolan and other cases which have dealt with the specific issue of whether an advancement of monies by a third party should be classified as a loan or a gift, it is important to evidence as many of the following criteria when seeking to have a loan recognised:

1                  The advancement of monies is recorded in a written agreement (loan agreement);

2                  The agreement specifies the duration of the loan for the capital repayments and the interest repayments;

3                  Evidence of repayments, most preferably in accordance with the loan agreement; and

4                  Whether the lender has registered a mortgage or charge over the property which the borrower purchased with the loaned monies.

If the above criteria are met it’s far more likely that the monies advanced by the third parties will be recognised by the Family Court as a liability which should properly be included in the matrimonial asset pool, to be repaid by the party who received the monies.

Another important point is if the advanced monies are not recognised as a loan then they should still be classified as a gift and be recognised as an indirect financial contribution by the party who received the funds. This is important when assessing the parties’ contributions and adjustment of the net matrimonial asset pool, and could still have a significant impact in what portion of the assets the parties receive.