Are you lucky enough to be receiving gift funds to help with your mortgage? Find out what a mortgage gift letter is and why you need one to secure a loan.
Let’s say a young couple feels ready to leave their apartment and take a chance on a ranch-style house in their area — but their bank account isn’t ready.
If you don't have the down payment money, loved ones are allowed to help.
But you'll need to get them to write what's known as a "mortgage gift letter."
What's a mortgage gift letter?
A mortgage gift letter is a form from your donor declaring that the down payment funds have been given to you as a gift.
It shows a mortgage lender that you're under no obligation to return the money.
The lender wants to know that when you agree to make your monthly home loan payments, you won’t face the additional financial stress of having to pay back the donor. That could make you more prone to falling behind on your mortgage.
Mortgage lenders prefer that you owe your house to them and no one else. The lender may also want to see a bank statement proving that the down payment funds exchanged hands, or — if stocks were liquidated to provide the money — further evidence, like electronic transaction documentation.
The gift letter may allow the donor to avoid paying a hefty federal gift tax on the transfer. Without the letter, the IRS could tax the donor for up to 40% on the gift amount.
Mortgage gift letter template
A mortgage gift letter must include:
- The name of the mortgage borrower
- The donor's name, address, and phone number
- The donor's relationship to the borrower
- How much is being gifted
- A statement saying that the gift is not to be paid back. (Because if it is, then it's not a gift!)
- The new property's address
Here's a good mortgage gift letter template you can use:
To whom it may concern,
I, John Doe, hereby certify that I will give a gift of $5,000 to Jane Doe, my daughter, on January 1st, 2020 to be applied toward the purchase of the property at 123 Main Street.
I certify that this payment is a gift and that there is no obligation, either expressed or implied, of repayment. No part of this gift was provided by a third party with an interest in buying the property, including the seller, real estate agent and/or broker.
I have given the gift from the account listed below, and have attached documentation to confirm that the money was received by the applicant prior to settlement.
The source of this gift is:
[Type of account]
[Name of financial institution]
321 Avenue Street
(123) - 456 - 7890
When would you use a mortgage gift letter?
Young couples might look into first-time home buyer programs or — sometimes more likely — the lovebirds will turn to their parents for some help.
After all, the median U.S. home price in 2019 is $272,000, according to the National Association of Realtors. Plus, anything halfway decent in their area might be in the $300,000 to $500,000 range.
The couple could put up a smaller down payment, but it’s typically recommended that a buyer put at least 20% down ($100,000 for a $500,000 home) to lower your monthly mortgage payment — and avoid having to pay private mortgage insurance, too.
Asking for help is all well and good, but the gift letter is proper protocol. It’s important to be aware of the rules and tax regulations surrounding down payment gifts.
Mortgage gift rules and restrictions
The main restriction implemented by the IRS limits the amount of money that’s gifted from one person to another.
In 2019, parents filing a joint tax return can gift up to $30,000 (for a mortgage or any other reason) per child. Another family member, like your uncle or sister, can give you up to $15,000 per year with no tax consequences. The lifetime limit per donor is $11.4 million.
Amounts exceeding the limits are subject to the crushing up-to-40% gift tax.
For conventional mortgage loans, a down payment gift generally must come from a family member. A family member is defined below:
- Parents (step and foster parents too)
- Aunts and uncles (great or step included)
- Niece or nephew (step included)
- Grandparents (great, step, or foster included)
- Cousins (step or adopted included)
- In-laws (which includes your spouse’s grandparents, aunts, uncles)
- Child (step, foster and adopted included)
- Sibling (step, foster and adopted included)
- Domestic partner
Future in-laws can sometimes contribute, too.
Anyone else in a special relationship with the homebuyer --- such as godparents or close family friends — must provide evidence of their relationship.
When making down payments of less than 20%, gift-recipient home buyers must pay at least 5% of the sale price with their own funds. The remaining percentage can be paid with gift money.
Down payments in excess of 20% may be paid totally with gift money.
Low-down-payment mortgages and gifts
The rules can be a bit different with low-down-payment mortgages.
For example, VA home loans, available to active members of the U.S. military and veterans, require no down payment. But the borrower may choose to make a down payment — and it can come entirely from cash gifts.
USDA mortgages, offered to homebuyers in rural and some suburban areas, also do not require a down payment. As with VA loans, USDA mortgages allow the option of making a down payment, and all of that money can come from gifts.
FHA mortgages offer down payments as low as 3.5% and flexible mortgage benefits. With an FHA loan, mortgage down payment gifts can come from both friends and family members.
Remember that any gift given requires a gift letter to reassure your lender that you don't owe the money.
When can you use down payment gifts?
Down payment assistance from friends or family can move forward on a primary or sometimes even a second property without being a tax liability for the person receiving the gift.
But down payments for investment properties can never be given as gifts, tax-free or otherwise.
If you’re receiving a mortgage gift or are planning on gifting a down payment to your child or another relative, make sure to speak with a professional and stay on top of the latest tax policies — since they change year-to-year.
And talk to your family members, too. Make sure they understand everything beforehand.