How Are Loans From Family Members Treated During Financial Remedy Proceedings?

We often see the phrase ‘the bank of Mum & Dad’ bandied about, as the next generation of young couples seek to establish a life for themselves in an increasingly expensive world. For many, financial support from family and friends is often necessary to create a solid financial base from which a couple can grow and evolve.

But, what happens to that familial financial support when a couple decides to divorce, and how are those payments divided during financial remedy proceedings?

It is first important to establish whether a payment was a gift or a loan, as each are treated differently by the Court. For a payment to be considered a gift, there must be evidence of an intention to give. If that intention is not present, then the payment is deemed to be a loan.

What are hard and soft family loans?

During financial remedy proceedings, when discussing the liabilities of each party, the terms ‘soft loans’ and ‘hard loans’ may arise. In the recent decision of P v Q (Financial Remedies) [2022] EWFC B9, HHJ Edward Hess summarised the law relating to hard and soft loans, and provided guidance as to how the latter category should be handled during financial remedy proceedings.

When determining if a loan is ‘soft’ or ‘hard’, there may be instances where factors fall within either category. In such circumstances, it is for the judge to determine the most appropriate description in a particular case, bearing in mind the promotion of a fair outcome. When making this determination, a judge will consider various factors, including those listed below.

Soft loans

The term ‘soft loan’ often refers to a loan with the following characteristics:

• It is a loan from a friend or family member, who continues to have a good relationship with the debtor and who would not want the debtor to suffer hardship
• The loan was made on an informal basis, with relaxed and undefined term
• The date previously set for repayment has passed, but the creditor has not written to the debtor requesting repaymen
• The creditor has delayed enforcing the loan
• The loan is of an amount of money which the creditor is less likely to require the debtor to repay

Hard loans

In contrast, a ‘hard loan’ is a loan which can be described as:

• Involving an obligation to a finance company (i.e. a bank)
•  Including terms which reflect those of a standard commercial arrangement
• Arising out of a written agreement
• Involving a written demand for repayment and the threat of, or actual, litigation, or intervention within the financial remedy proceedings
• One which repayment is enforced without delay
• Being of an amount of money which the creditor is more likely to require the debtor to repay

The importance of establishing the status of a loan relates to the issue of whether it should be included as an enforceable debt in an asset schedule. If the loan is deemed to be a soft loan, then a judge has discretion over whether to include or exclude the amount purported to be the loan.

When a party has received payment from a family member or friend, they may seek to declare that said payment is a hard loan, and so must be repaid from the matrimonial pot prior to the division of finances. To the other party, this approach may simply appear to be a tactic to protect the lending family member or friend, to reduce the overall amount within the matrimonial pot, or to place a limit on how much they can walk away with following separation.

This was the case in P v Q, where the husband repaid his Mother £150,000, despite her not requesting the same and admitting that it was unlikely she would have ever required repayment of the loan. Judge Hess concluded that the primary motivation for the Husband repaying his Mother was because of the Husband’s concern that his Wife would receive half of the sum at the conclusion of the financial remedy proceedings.

The decision in P v Q confirmed that, even if a party has repaid the loan to the creditor (i.e. their friend or family member) this does not automatically mean it is a hard loan. If all other features of the loan point to it being a soft loan, then a judge retains the discretion to include the sum of money in the computation table.

So, a party can seek to siphon off a specific sum from the matrimonial pot, by transferring that amount to the creditor, in the name of repaying a loan. However, if that sum was originally a soft loan, then a judge can reintroduce that amount into the asset schedule and include the transferred sum when calculating the assets of each party.

If parties wish to avoid the uncertainty that can come with soft loans, and secure greater protection for themselves and their family’s and friend’s money, they can consider the factors listed above and ensure that when a loan is made, it is done so under circumstances which clearly indicate it is a hard loan, rather than soft.

If you require any advice or assistance about the division of finances following separation with your partner, please get in touch with one of our family law experts who will be able to discuss any queries you may have. Alternatively, you can call us on 0330 822 3451 or get in touch with us online.