Coming up with a down payment is often a first-time home buyer’s biggest challenge. Buyers preparing to cover the typical 20% down payment required in conventional loan products frequently look to relatives for help. In a National Association of Realtors survey of people who bought homes from July 2011 to July 2012, about one quarter of first-time home buyers relied in part on gifts from relatives. This trend is on the rise partly as a result of stricter down payment requirements set by mortgage lenders following the housing and mortgage crisis of 2008.
However, mortgage lenders closely scrutinize cash gifts. That critical check from a relative or close friend may cause qualification issues relative to your home purchase if you cannot thoroughly document its source and intention. Banks want to ensure that you are not receiving a second loan against the same property that they are going to record a first mortgage against. On the other hand, most lenders will require borrowers to have some money in the bank after closing. Many times a gift will allow a buyer to make a down payment without severely depleting their savings – a big plus in an uncertain economy. Paying close attention to the amount of money the home buyer is receiving as a gift and properly documenting the gift can help make the closing process as smooth as possible.
1) You may need to put down some money of your own
Just how heavily a borrower may rely on a financial gift to cover a down payment depends on the type of mortgage involved and the size of the gift. With a conventional loan, lenders require that borrowers contribute at least 5% of their own money
For loans backed by Freddie Mac: when the loan-to-value is greater than 80%, if a relative gives a gift to help out with the down payment, then the buyer also needs to provide at least 5 percent purchase price from his or her own funds. For FHA mortgages, the entire 3.5% required down payment can be a gift. Fannie Mae allows all down payments to come from gift sources for loans on one-unit principal residences.
As for donors, before writing a check, they should consider their liability under federal gift tax regulations. Individual gifts of $13,000 or less are exempt from the tax. This may sound like a low ceiling, but the gift allowed for is larger than it appears. For example, if two parents want to give money to their newlywed daughter, each may give $13,000 to the daughter and $13,000 to her partner, for a nontaxable total of $52,000.
2) Gift documentation is a must
First, it’s best if the gift comes from a close relative. Lenders are less likely to question the gift if the money is coming from a parent or sibling. Next, the gift must be properly documented. A gift letter should be signed and dated and include the donor’s name, address and telephone number, along with his or her relationship to the borrower. The letter should also include the address of the property being purchased, the dollar amount of the gift, when the money was transferred, and a statement that it is, in fact, a gift and no repayment is expected. Once the money is in the receiver’s account, the lender will want a copy of the original check in the exact amount stated in the gift letter as well as proof of deposit and fund availability.
3) “Seasoned” gifts need not be documented
Once a gift has been parked in your bank account for three months or more, it’s considered “seasoned,” and therefore does not require a gift letter. Once seasoned, the money is considered property of the receiver and a gift letter becomes irrelevant. To eliminate worry about proper documentation for a down payment gift, borrowers should get the gift at least a few months in advance.