Home buyers, especially those preparing to buy their very first home, know that unless they’re VA eligible or the property qualifies for USDA financing there will be a down payment of some amount when obtaining financing. In addition to the down payment there will also be closing costs associated with the home loan. This means saving up for money, borrowing from a retirement account or pulling funds from a checking or savings account. These are the most common sources of funds to close but there is another popular way to obtain funds for closing and that is in the form of a financial gift, or “gift funds.”
Gift Funds Defined
While the term gift funds seems fairly straightforward there are some guidelines that must be followed in order for the funds to be acceptable to the underwriter. With both conventional and government-backed mortgages gift funds are an acceptable source of cash to close. The gift funds can be used for all or part of the down payment, closing costs and some money left over after closing referred to as “cash reserves.” The key component the underwriter needs to be sure of is determining the gift is truly a gift and not a short term loan. If the gift funds are indeed a loan that will affect the borrower’s ability to repay the mortgage due to the undisclosed payment obligation to pay back the money. How is that determination made? There is no bona fide way to make that determination but the underwriter can make a reasonable guess due to the source of the gift.
How it Works
Eligible donors are relatives of the buyers, such as a spouse, child, parent or anyone else related by blood, marriage or adoption. A fiancé is also considered an eligible source. To document the gift, there needs to be a gift letter in the file stating how much the gift is for, when the funds were transferred and a statement that, “No repayment is expected” or similar language. The donor’s name, address and contact information should appear on the gift letter. To verify the transfer of the gift, a copy of the settlement statement from the closing showing the source of the funds and transfer to the escrow agent will be needed.
For conventional financing when financing a 1-4 unit property and the gift is for 20% or more of the sales price there is no need for a minimum borrower contribution which means all needed funds for the settlement can come from a gift. If there is less than a 20 percent down payment and the loan is for a single family residence, there is also no need for a borrower contribution. However, with a 2-4 unit property and less than 20 percent down, the borrowers must have at least 5 percent of the sales price coming from their own funds. FHA, USDA and VA loans also allow for gift funds to be used for all or part of the down payment, closing costs and reserve requirements and must also come from an approved source.
If you’re considering applying for a home mortgage and using gift funds, we can help. Give us a call and we can work through the best opportunities that fit your goals.