When to cut off adult children who aren't financial grown-ups

It's natural for parents to want to help and support their children. But should that help continue well into adulthood? By helping too much, parents run the risk of imperiling their own financial future and creating dependence.

"The reality is that you are not doing the adult kids any favors at all by always bailing them out," said certified financial planner ReShelle Barrett, a senior vice president with Bill Few Associates.


Father talking to son
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The Great Recession rewrote some of the rules of financial independence for many young adults. With jobs scarce, student debt soaring and foreclosures hitting, it wasn't uncommon for grown children to take refuge in their childhood homes.

"If they're typically financially responsible but have fallen on hard times, you are going to want to be there to help them, and that's fine," said Joe Franklin, a CFP and founder of Franklin Wealth Management.

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Those were unusual circumstances, and even hardworking children found themselves in financial straits. It's a general "open wallet" policy that financial advisors say is dangerous for parents and children alike.

"People don't want to cause their kids any pain or any stress," said Joel Larsen, a CFP and principal of Navion Financial Advisors. "One day you're not going to be around anymore. Do you want your kids learn to deal with the world when they're 60?"

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Avoiding financial ruin

It's fine to make a lavish gift to adult children now and again, especially for children who are otherwise diligent and make no demands. But always coming to the rescue can jeopardize both your child's drive and your retirement security.

"In the final descent to retirement, there's not a huge buffer for you," said Ken Geraghty, a CFP with Eagle Strategies. A child in his or her 30s or 40s has lots of options for income generation; a retiree does not.

Take one of Joel Larsen's clients, a 70-something widow who always swooped in to rescue her three children. "One needed help starting a business; another needed a down payment on a house or a new car," Larsen said.

"If children are buying a house and counting on help from Mom and Dad, then it's probably a house they can't afford." -ReShelle Barrett, senior vice president at Bill Few Associates

The woman had a comfortable retirement that wasn't too extravagant, but her constant gifts soon depleted her investment account and, later, her emergency savings. When she came clean to Larsen, he called her children and asked for the money back. "They all said, 'Sorry, I can't,'" he recounted.

Before long, the client had a medical issue and needed care. With her assets gone, the only care she could get was in a Medicaid nursing home. Had she not made those handouts, she could have afforded a better facility or received care at home, Larsen said.

Now when clients say they want to help their adult children, he offers to run the numbers for them and tell them how it will impact their retirement plans. "That way, they can say, "My financial planner says I can't afford it,'" he said.

The right help

There are several categories of gifts that advisors caution against. The first is help with a down payment. Parents who provide a down payment outright may be facilitating home buying before their children have the maturity that comes with saving for it.

Helping with a bigger down payment has other problems. "If children are buying a house and counting on help from Mom and Dad, then it's probably a house they can't afford," Barrett at Bill Few Associates said.

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Parents are also too quick to help their children start a business. Plenty of small businesses fail, and parents need to protect themselves.

"You need to have something legally in writing that protects you as an investor in that business," Barrett said. "If the business defaults and can't pay its creditors, those creditors can come after your personal assets."

Having the 'talk'
Having the 'talk'   

Gifts vs. loans

Some advisors, such as Franklin of Franklin Wealth Management, believe that when parents make substantial cash outlays to help their kids, they should expect to be paid back. He advises his clients to draw up a contract and charge interest. "As a parent, you have to feel proud when they pay your money back, knowing they are on the path to financial independence," he said.

By Internal Revenue Service rules, you must charge a minimum interest rate. In March the Applicable Federal Rate was 0.40 percent for loans up to three years, 1.47 percent for loans of three to nine years and 2.19 percent for loans longer than that. "If they don't pay you back, it's now a gift," Franklin said.

Gifts that are more than $14,000 (or $28,000 per couple) are taxable, though "most people are not even aware about the gift tax," said Geraghty. If tax is not paid, then larger gifts will need to be accounted for and taxed at that time.

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Some parents go one step further and deduct gifts from their children's inheritance. "I had a client who said that when she passes, her son is not going to get anything, that it was going to the other children because he had already gotten so much from her in the form of handouts," said Franklin.

Of course, financial dependence is a two-way street and the result of a lifetime of financial lessons never learned. The best defense against dependent children, advisors say, is increasing financial responsibility as children grow. And letting them fail when they're young is a lesson that will stay with them long after their parents are no longer there to bail them out.

—By Ilana Polyak, special to CNBC.com