The downpayment is one of the biggest hurdles to homeownership.
So big, in fact, that is keeps many would-be borrowers from getting the home they deserve. This is understandable, as even a minimal downpayment can equal thousands of dollars. For example, the minimum downpayment on a FHA loan is 3.5%. However, if you are purchasing a $300,000 property, which is moderate in many communities, you’re staring at a downpayment of $10,500. For some buyers, this is easy. For others, it represents a real barrier to getting a loan, especially if 0%-down options like VA loans and USDA loans are unavailable.
To alleviate this problem, some borrowers are able to use financial gifts from friends or relatives. This is usually an option, but you need to prepare correctly so the gifts are eligible towards your purchase.
Important Note: Different Loans and Lenders Have Different Requirements for Using Gifts
While there are some general rules for using gift funds, rules that apply to most or all loan programs, you need to understand that each loan type will have different requirements for using cash gifts. So if you are using an FHA loan, for example, your gift funds will be treated differently than if you were using a conventional loan. Likewise, one lender may have different requirements than another.
When Can a Gift for a Downpayment Be Used?
When the Gift Comes from a Family Member
For some loan products, the person giving the loan needs to fit into a specific category as a family member. While there are available options for using gifts from just about anyone, many loans require the gift donor to be a parent, grandparent, sibling, son, daughter, or close relative such as an aunt or uncle. If the cash is coming from a friend or a work acquaintance, you may not be able to use the funds as a downpayment.
When You Have a Gift Letter
Another requirement for using gift funds is a gift letter. This is essentially a document that outlines the money being given and describes the nature of the gift. It doesn’t have to be extremely complex, and should primarily include information directly related to the gift itself.
The gift letter should include the total amount being given, as well as when the money will be given if it has not been received yet. The gift letter should also include the nature of the relationship between the donor and receiver, and it should have a statement that the money is in fact a gift and not a loan. (More on this below.)
When You are Buying a Single-Family Primary Residence
While it is possible to use a gift loan for a multiunit property, investment property, or second home, it’s far easier for people using this option to purchase a single-family home that will be used as a primary residence. There are many reasons for this, but it largely comes down to the fact that single-family homes have less risk to lenders, so lenders are more lenient when it comes to issuing mortgages on these properties. Therefore, you are more likely to use a gift fund towards the purchase of a single-family home.
When the Money is NOT a Loan
This is crucial: the money from a friend or family member cannot be a loan. If it is a loan, it will, in virtually all circumstances, be ineligible for use as a downpayment. This is because a loan will impact your debt-to-income ratio and increase the statistical probability of default on the loan. In your gift letter, which we discussed above, you will need to include a clear, direct statement that the money is not a loan and that the gift giver expects no compensation whatsoever.
When Using a Conventional Loan
Some loan products do not allow for gift funds, while others only allow it in special circumstances. However, with conventional loans you will likely be able to use a gift for your downpayment.
With a conventional loan, all of your downpayment can come from a gift, which is not the case with other options. However, this only applies if you are bringing a 20% downpayment. If the total is less than 20% of the purchase, you will be responsible for at least a portion of the total downpayment.
When Using a VA and FHA Loan and Your Credit is Solid
You can use a gift fund towards the downpayment on your VA and FHA loan, but you need to meet a certain requirement. Namely, you need to have a credit score that is 620 or higher. If your score meets this threshold, you can use a gift to fund the entire downpayment. However, if your credit score is less than 620, you will need to personally fund at least 3.5% of the downpayment, which is the basic downpayment requirement for many FHA loans. 620 is not a huge score, but some borrowers will have trouble meeting this requirement and will likely need a 3.5% downpayment.
When You Have Proof of the Gift, or Proof the Gift Can be Made
This may seem like an obvious factor, but it’s one that’s overlooked by many borrowers. Fortunately, it’s also one that is easy to remedy. Basically, you will need to show proof that you have received the gift, usually by showing the lender a bank statement that includes the deposit. If you have not yet received the gift, the donor will need to provide proof that they have the means to make such a gift; basically, they need to prove they have the financial means to make the gift in question.
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If you are using a cash gift for a downpayment on your next mortgage loan, let our team help. As you now know, there can be complexities for using gift on your loan, but you can work with our experienced team to increase your chances of mortgage approval.
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