Down payment gift money has become an increasingly popular source of funds for first time homebuyers. John Mayer says: “fathers be good to your daughters.” Today, we want to reverse and amplify that to say: “daughters and sons be good to your mothers and fathers… and even other relatives too.”
Well, for starters, they are literally the reason you are here, but they can also be a great source of down payment funds for that dream home you’ve been looking to buy.
First off, let’s set the record straight when it comes to down payments. You DO NOT need to put a 20% down payment to buy a home. That is a myth that needs to be debunked immediately. That being said, if you can put 20% down, you would avoid paying monthly mortgage insurance (mortgage insurance protects the lender in the event you default on your loan). But if you can’t put 20% down, you can put down as little as 5% with most conventional loan programs. You can even go down to 3.5% with an FHA loan (but that carries certain additional expenses we will discuss at a later time). To see your different down payment options and loan programs, check out our mortgage calculator.
Now back to the specific matter at hand: a down payment gift.
Simply stated, a down payment gift is a gift of liquid monetary value to be used for the specific purpose of putting money down for the purchase of a residential property. As the name implies, it’s a gift. It’s not a loan that must be repaid; the lender will make sure to document it as such.
Documenting the Gift
The lender will typically require a down payment gift letter from the gifter (the person making the gift, e.g., your mom) stating that the funds do not need to be repaid. If the down payment gift money must be repaid, it’s considered a loan (not a gift) and its payment must be factored into your monthly expenses.
In addition to making it clear that the funds are a gift, the down payment gift letter should also state the amount and date of the gift, the subject property address (the address of the property you are buying), and the relationship between the gifter and the giftee (that’s you, by the way).
Most lenders will also require a full paper trail of the transfer of funds from the gifter to the giftee. This can be accomplished in multiple ways and depends on the type of transfer that occurred.
The easiest and most common way is for the gifter to write a check for the exact gift amount to the giftee. In this case, you can submit a copy of the check (both sides) as proof of transfer as well as the giftee’s bank statement showing that the check cleared. The gifter will also need to provide a bank account statement showing the funds for the gift being withdrawn from the gifter’s account.
Note: if the gifted funds were not in the gifter’s bank account for a certain period of time (two statement cycles) prior to the down payment gift being made, you must also keep a paper trail tracing the funds back to its original source. For example, let’s say your dad sold some stock from his brokerage account to give you the down payment gift. In that case, the lender will ask for evidence of the stock sale and the transfer of funds from your dad’s brokerage account to the bank account from which the gift was made.
The gifter can also wire the funds to the giftee. Although this may be simpler than writing a check, showing evidence of a wire is harder, and the name of the game is to make things as simple as possible for the lender. Trust me, it’s for your own good.
Also in the spirit of maximum simplicity, it is highly advisable that the giftee deposit the down payment gift money into the same bank account where the rest of the funds that will be used for closing are coming from (i.e. the rest of your down payment funds, funds to cover closing costs and financial reserves that may be required by the lender).
Other Important Stuff About Gifts
- It used to be that if you were buying a home with at least 20% down, ALL of your down payment could come from a down payment gift, but if you were putting less than 20% down, a big chunk of the down payment amount had to come from the borrower and not from a gift. New rules are making this requirement less stringent and allowing borrowers to use gift money for their entire down payment, even if the total down payment is less than 20% of the purchase price, as long as they are purchasing a one unit primary residence.
- You can only use down payment gifts to purchase a primary or second home, but not for an investment property. With FHA loans, you can only use gift funds for a primary home.
- If you want to completely avoid documenting the gift money for a down payment, you can do this by making sure the funds are in your bank account at least three months prior to submitting your bank account statements to the lender for the first time. This is referred to as “seasoning” of funds. The lender will only scrutinize your bank account activity for the last two statement cycles. Any funds deposited into your bank account before then are “seasoned” and the lender will generally not inquire about them. By the way, this is perfectly legal (we’re not teaching you how to deceive your lender here).
- There may be tax implications for making and receiving gifts, so make sure to consult your tax advisor (or maybe your parents’ tax advisor).
- Oh, and please don’t forget to thank your gifter(s) – it’s the right thing to do!
For more tools to help prepare yourself for your home purchase, check out MortgageHippo. We’ve built tools especially for first-time home buyers who might need a little more guidance.
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