Whether it’s money your grandma has tucked away for the day you decide to buy your first house or wedding card envelopes stuffed with cash and wishes for a long and happy marriage, receiving presents in the form of funds to put toward a down payment can take a huge burden off your shoulders when you’re looking to start the home buying process.
You might assume that you can just use whatever financial gifts your loved ones give you for a down payment but using gift money is not as cut-and-dried as you might think. Whether you have $20 or $20,000, the source of the funds in your bank account will matter just as much as how much money you actually have.
To understand why the source of your funds matters to your mortgage company, you’ll first need to understand what underwriting is and how it impacts your loan. Then we’ll go over some important things to know about receiving and using gift funds.
Understanding Underwriting
Underwriting refers to the process in which your lender looks at your credit score, income and assets to determine how risky it would be to lend you money. When underwriters look at your assets, they check to make sure that the money in your account is indeed your money – they want to make sure any large deposits (other than something regular, such as your paycheck) are your actual assets. This includes making sure any deposits in your account from friends and family that you plan to use for a down payment are gifts, not loans.
This is essential to ensuring that you can actually afford your mortgage payment and that you’ll be likely to pay the loan back. If you used a personal loan to qualify for a home loan, chances are you’d be left with a big financial mess once you had to start paying both loans back.
So, how can an underwriter establish that deposits in your bank account are gifts and not loans? They’ll need the gift-giver to write a gift letter. Let’s take a look at what that means.
What Is a Gift Letter for a Mortgage Down Payment?
As it applies to your mortgage, a gift letter is a note from the donor that says you don’t have to pay the money back. If you’re using gift money as part or all of your down payment, you’ll need the donor to write a gift letter to your mortgage company that makes it clear that the money is a gift and not a loan.
Here’s what your gift letter should include:
- The donor’s name, address and phone number
- The donor’s relationship to the client
- The dollar amount of the gift
- The date the funds were transferred
- A statement from the donor that no repayment is expected
- The donor’s signature
- The address of the property being purchased
It’s important to understand that the gift letter in itself may not be enough evidence for the mortgage company. Your lender will also want to verify that the funds are either in the donor’s account or have been transferred to the recipient’s, usually by asking for copies of the withdrawal and deposit slips, or something similar. You’ll probably want to let your generous friend or relative know this up front, so they’re prepared to provide the proper documentation.
Sample Gift Letter
Your lender may provide you with a gift letter template. If that’s the case, you can simply pass it along to the gift giver and have them fill it out. If they don’t provide you with a template, be sure to ask what their gift letter requirements are.
If you aren’t given a template, here is an example of what your gift letter should look like:
[Donor name, address, phone number and relationship to recipient]
[Recipient name and new property address]
[Dollar amount of the donated gift and date the gift was or will be given]
[Indicate whether recipient will use (or has used) a portion of the gift for their earnest money deposit]
By signing this gift letter, both the donor and recipient confirm that they didn’t receive the gift funds from any person, business or entity that has any interest in the property being sold or any person connected to the transaction, such as the seller, real estate agent, builder, mortgage banker or any entity associated with them. The recipient and the donor also agree that the gift does not have to be repaid.
At the end of the letter, both the recipient and the donor should provide dated signatures.
Timing and Amount Is Key
Say you’ve just gotten married and received a chunk of money to put toward your down payment. While you may be excited to get that cash in the bank, you don’t want these deposits to cause problems when you’re trying to qualify for a mortgage. Let’s go over some further details on how gift money impacts underwriting.
Timing
Quicken Loans requires a 60-day history of assets for qualification purposes. As long as you have documentation for the past 60 days, your mortgage company can take it from there.
Amount
So, within that 60-day period, which deposits do you have to worry about getting a gift letter for? Grab your wedding veil and jump into this hypothetical situation with me for a moment.
You just got married. Aunt Sue gave you a $75 check, but Grandma Betty gave you $10,000 for tying the knot (you’ve always suspected you were the favorite grandkid). Will you need gift letters for both deposits?
In general, your underwriter will need to verify the source of any large deposit. What’s the criteria for a “large deposit?” It’s any single deposit that exceeds 50% of the total monthly qualifying income. This is for conventional, VA and jumbo loans. For FHA and USDA loans, a large deposit is defined as any deposit that is greater than 1% of the adjusted purchase price or appraised value, whichever is lower.
Let’s say you are doing a conventional loan for our example. If you make $4,000 a month, any deposit over $2,000 would probably be questioned by your underwriter. Therefore, the underwriter will probably want to verify that Grandma Betty’s $10,000 gift is a gift, not a loan, so you’ll need to ask her for a gift letter. Aunt Sue’s gift, however, is small enough that the underwriter might not question it.
Of course, this is partially up to the underwriter’s discretion. If there are any deposits that seem to be out of the ordinary, your underwriter may question them regardless of your income. If you normally had $2,000 in your checking account and you suddenly have a deposit for an extra $8,000, they would want to verify that regardless of the purchase price/appraised value or qualifying income. We would dig deeper into that situation, just to make sure the situation checks out. While your Aunt Sue’s small gift might not be questionable in itself, if the underwriter finds that it’s out of the ordinary, he or she may require gift documentation.
Who Can Give Me a Down Payment Gift?
Depending on the type of loan you’re getting, there are differing guidelines regarding who may give a down payment gift to you. Let’s briefly go over those.
Conventional Loans
if you’re getting a conventional loan through Fannie Mae or Freddie Mac, the gift has to come from family. For the purposes of your mortgage, family is defined as follows:
- Spouse
- Parent (including step and foster)
- Grandparent (including great, step and foster)
- Aunt/uncle (including great and step)
- Niece/nephew (including step)
- Cousin (including step and adopted)
- In-laws (including parents, grandparents, aunt/uncle, brother- and sister-in-law)
- Child (including step, foster and adopted)
- Sibling (including step, foster and adopted)
- Domestic partner
- Fiancé
If you happen to get a loan from Fannie Mae, they also allow gifts from future in-laws.
FHA Loans
With FHA loans, nearly all of the above are considered family who can give you a gift, including future in-laws. However, some caveats apply.
While cousins, nieces and nephews aren’t able to give your gift under normal family guidelines with an FHA loan, the FHA does allow for gifts from close friends who have a clear interest in your life. This can include extended family like cousins, nieces and nephews and even former spouses.
In addition to the close friend guideline, the FHA also allows for gifts from the following:
- Employer
- Labor union
- Charitable organization
Finally, you can receive funds from a government agency or public entity that provides homeownership assistance to low-to-moderate income or first-time home buyers.
USDA and VA Loans
The USDA and VA don’t place very many restrictions on who can give you a gift. The only stipulation is that it can’t be an interested party. An interested party is someone who is involved in the transaction directly or indirectly. This includes, but isn’t limited to:
- Seller
- Builder
- Developer
- Real estate agent/REALTOR®
What Are the Limits on Gifts?
There are no limits on the amount someone can give you for a mortgage down payment or closing costs. However, depending on the loan and property type, you may be required to contribute a certain percentage of the down payment from your own funds.
Keep in mind that these rules are subject to change based on lending regulations, so check with your mortgage company for up-to-date guidelines.
Primary Residences
If you’re getting a primary residence, you can use gift funds for your down payment. These guidelines apply:
- If it’s a single-family home, you can use gift funds without having to contribute any of your own money to your down payment.
- If it’s a multi-family home, you can get a home without having to contribute to the down payment as long as the down payment is 20% or more. If your down payment is 20% or less on a multi-unit home, you have to contribute at least 5% of your own funds to your down payment.
Second Homes
If you’re getting a second home through a conventional loan (you can’t get them through the FHA, USDA or VA), the following guidelines apply regarding gift limits:
- If you’re making a down payment of 20% or more, all funding for the down payment can come from the gift.
- If it’s less than 20%, then 5% of your down payment must come from your own funds.
Investment Property
Gift funds cannot be used toward the down payment on an investment property.
What Are the Tax Implications?
Tax laws change on a fairly regular basis, and you should always speak with your financial advisor or tax professional in order to make sure you’re in compliance with the most current law.
In general, you won’t be responsible for any taxes on gift funds. Your donor may be, however, and it might be helpful for you to make sure they’re aware of that. The only occasion where you’d be expected to pay the gift tax would be if you’d agreed to pay it for the donor.
For 2019, the annual exclusion for gifts is $15,000, meaning donors can give up to this amount without having to report it.
If your donor gives you more than that amount, they’ll have to file a gift tax return to disclose the gift. Filing a return doesn’t mean that they’ll have to pay taxes on the gift, it just means that the amount has been counted toward their lifetime gift tax exclusion, which dictates how much money you can gift a person over the course of your lifetime.
If you know that you’ll be getting any financial gift to help with your down payment, be prepared to document it for your mortgage company. Do you still have questions about using gift money for your down payment? Get started online or give us a call at (800) 785-4788 to speak with one of our Home Loan Experts!
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