Here’s one thing you should know as a first-time or repeat home buyer: You don’t have to come up with a down payment by yourself. Family members can help.
If your family will be helping, your lender will need to know in advance. The lender will need a “gift letter” from the donor to make sure your down payment help has no strings attached.
If you’re planning to buy a house but need help with the down payment, you could ask for down payment gift money.
In this article:
- Gift funds can help first-time homebuyers get a home
- Using conventional loan gift funds
- FHA loan gift funds
- USDA loan and VA loan gift funds
- Who can give gifts?
- What gifts are unacceptable?
- Sample mortgage gift letter (pdf)
- Gift money documentation
- Alternatives to down payment gift funds
- What is a gift of equity?
- Qualifying for a loan
- Down payment gift funds FAQs
- Our recommended lenders for home loans
It takes a lot of cash to make a down payment, even with today’s smaller down payment mortgages.
For example, let’s say you’re buying a $350,000 home, which is less than the current median home purchase price in the U.S. That translates into a dollar amount of:
- $10,500 to make a 3% minimum down payment on a conventional loan
- $12,250 to make an FHA loan’s 3.5% down payment
- $17,500 for a 5% down conventional loan
A down payment gift could help you reach this threshold sooner, and buying sooner often means paying less. As years pass, homes tend to get more expensive.
And, don’t forget about the closing costs which could double your upfront cash outlay. Gifted money can help with those costs, too.
How do down payment gifts work?
Down payment gifts seem simple enough: Family members — or friends, in some rare cases — give you money, and you use the money for your down payment, closing costs, or both.
But there are some rules to know about. Following your lender and loan program’s rules will help avoid delays in closing your loan.
Overall, the rules ensure you’re not required to repay the gifted funds. For example, does the donor expect to own part of your home in exchange for the gift? Will the owner want a lien on the property?
The best way to clear up these questions is with a down payment gift letter.
What is a down payment gift letter?
A gift letter, from the donor to the lender, includes the donor’s name, address, and phone number. It also includes the donor’s relationship to the borrower and the amount of the gift.
The letter should state that the gift is intended to help the borrower make a down payment and that the donor has no expectation of repayment.
If your donor isn’t sure how to write a gift letter, that’s OK. The loan officer usually provides a template gift letter for the borrower to provide to the donor. The donor then completes and signs the letter.
Is gift money taxed?
You won’t have to report a down payment gift as income on your tax return. The money won’t be taxed as income.
It’s not quite as simple for donors. The IRS allows each donor to give you up to $17,000, beginning in the 2023 tax year, without paying a gift tax. (In 2022, the maximum is $16,000.) Married couples can give $34,000 ($32,000 in 2022).
Also, donors have a lifetime cap on gift-tax-free donations. Beginning in 2023, that lifetime cap is $12.92 million.
Are there limits on gift amounts?
As long as you and your donor meet your lender’s guidelines, you could use gifted money to cover your entire down payment amount on a primary residence.
In the past, conventional loan gift funds were limited to a certain percentage of the purchase price. But now this happens with some investment property loans.
That said, each loan type does have its own unique requirements, so we’ll discuss those next.
Conventional loans, regulated by Fannie Mae and Freddie Mac, allow the borrower to apply financial gifts to the down payment, fees, and closing costs.
Borrowers usually do not need their own funds when receiving a gift if the gift covers the entire down payment and other loan costs. (In the past, borrowers needed 5% of their own funds.)
Now, according to Fannie Mae, the minimum 5% borrower contribution is only needed when:
- The gift amount is less than 20% of the purchase price, and the property is 2- or 4-unit or a second home
- If the loan amount is over $647,200
How much money can be gifted on a conventional loan?
To clarify, borrowers don’t need to bring their own funds when receiving a gift that covers the entire down payment and closing costs — unless the final loan amount is higher than the annual conforming loan limit. The current loan limit is $647,200 in 2022.
If the gift amount does not cover all upfront costs, borrowers need to prove they have the money to cover them, or they’ll need to receive a higher gift amount.
You may think it’s unlikely for someone to give away enough money to cover the entire down payment and closing costs. But, it happens more than you might think. Gifted money has allowed many homebuyers to achieve homeownership much earlier than they would have on their own.
Who can give gift funds on a conventional loan?
Not just anybody can help you make the down payment on your home. Gifts from the following sources are acceptable:
- Spouses, fiances, or domestic partners
- Children or other dependents
- Other relatives by blood, marriage, adoption, or legal guardianship
Interested parties, such as real estate agents or the home’s seller, cannot donate to the cause.
However, the home’s seller could help, indirectly, through seller concessions, up to 3% of the purchase price if you’re putting less than 10% down.
Technically, seller concessions can go only toward your closing costs. But, in reality, getting help with closing costs could free up more of your own money for your down payment.
What documentation is required when a gift is being used on a conventional loan?
Lenders will need to track the source of your down payment funds. Along with asking for a gift letter, expect your loan officer to check one or more of the following:
- Your bank statements before and after the gift is deposited
- Your donor’s bank statements before and after the gift is deposited
- Deposit slips showing when you deposited the donor’s check
- Withdrawal slip showing the money leaving the donor’s account
- A copy of the deposited donation check
- Proof of a wire transfer between banks
It’s okay if you don’t have access to all of these documents. Obviously, if you received funds via wire transfer you won’t have a check to show.
Basically, the lender needs to trace the money from the donor’s bank account to your bank account. Keep in mind, the amount of the transfer must match what’s stated in the gift letter.
The typical FHA borrower makes a 3.5% down payment on a home. This means that if the purchase price is $300,000, the borrower needs to come up with $10,500. The FHA calls this down payment the borrower’s required “minimum investment.”
The minimum investment is the FHA’s way of making sure the homebuyer has “skin in the game” which lowers the risk of foreclosure.
But there’s one exception to the minimum investment rule: The minimum investment can come from a cash gift. Borrowers do not need to contribute any of their own funds if receiving a gift for the full 3.5% down payment.
Using gifts on USDA and VA loans is less common because these loans do not require a down payment.
However, borrowers may still need help buying a new home with these loans, and gifted money can provide that help. For instance, if the new home’s appraised value is lower than the purchase price, the buyer will need cash to make up the difference. (Lenders won’t underwrite more than the appraised value of the home.)
Also, USDA loan and VA loan borrowers can use gifted money for closing costs.
U.S. Department of Agriculture Rural Development (USDA Guaranteed loans) allow gift funds to cover any down payment required or closing costs not already covered by the seller.
Likewise, The Veterans Administration (VA) allows gifts. For both of these programs, follow the same donor guidelines and documentation procedures as for conventional loans.
Typically, donors of financial gifts toward purchasing a house need to be relatives.
According to Fannie Mae’s underwriting guide, the gift giver can be “a relative, defined as the borrower’s spouse, child, or another dependent, or by any other individual who is related to the borrower by blood, marriage, adoption, or legal guardianship.”
In addition, a fiancé or domestic partner can be the source of funds.
FHA expands the rules a bit, allowing an employer, labor union, charitable organization or government agency to contribute. There’s even a provision for a close friend to give a gift, provided a documented, long-term relationship was in existence prior to the real estate transaction.
An example would be a high school yearbook, a family photo album, or proof of being roommates in college. This is the kind of real-life documentation the underwriter might ask for when receiving gifted funds from a friend.
Whether you qualify for FHA or conventional financing, lenders ultimately want to know one thing: Is the money from a legitimate gift?
Lenders worry about illegitimate gifts because they could put the loan itself in jeopardy. The point of mortgage underwriting is to make sure you’re willing and able to make the new home’s mortgage payments.
If a down payment gift were really a loan, repaying the loan could make it more difficult to pay the actual mortgage payments.
Gifts can’t come from anyone who would benefit from the sale of the home – the seller, agents, loan officer, etc. – even if any of those individuals are related to the buyer.
Any sums of money received from anyone involved in the transaction are subject to the limits of “interested party contributions” as designated by the loan program. These funds could not be used for the down payment but only for closing costs.
For instance, FHA allows a maximum of 6% of the sales price in interested party contributions. These funds can only be applied to closing costs. Conventional financing allows:
- 3% contribution with a down payment of less than 10%.
- 6% contribution with a down payment between 10% – 25%
- 9% interested contribution for closing costs for down payments over 25%
Again, these funds can only be applied to closing costs, not the down payment.
Another piece of documentation is the source of the funds. “Sourcing” funds, as it’s called within the mortgage industry, means showing proof of where the money came from. When dealing with gift funds, “sourcing” gift funds means providing a bank statement showing that the donor does in fact have enough money to give.
This is where things can get a bit sticky. Often, the mortgage lender requires the donor to hand over a full copy of his or her bank statements, showing all transactions and personal information.
Many donors don’t exactly enjoy handing over personal information for a loan that’s not even theirs. Anyone receiving a gift should let the donor know upfront about this requirement.
More about gift money documentation
Next, a “paper trail” needs to be established. A paper trail is a set of documents that follow the money. The paper trail would include:
- A bank statement showing the gift money came out of the donor’s account
- A withdrawal receipt from the donor
- A deposit receipt from the receiver
- A statement from the receiver’s bank showing the money is now credited to his or her account
Then the receiver will have to show proof of the gift money coming out and a receipt from escrow showing the funds were received.
Some steps can be cut out if the donor wires the gift money directly to the escrow company handling the transaction. In that case, all that would be needed is the donor’s bank statement and a receipt from escrow.
Likewise, if gift funds were received a long time ago, documenting it may not be necessary. The mortgage lender considers the funds yours if you can show bank statements that do not show the initial deposit.
The gift money would then be considered “seasoned,” which means they have been in your possession long enough to be considered yours.
Not everyone has relatives who can donate tens of thousands of dollars for a down payment. That’s fine. You can still find help through down payment assistance programs.
Down payment assistance programs often help first-time home buyers through grants or loans. Many of the loans are forgivable if you stay in the home long enough.
There’s no single source for down payment assistance. Instead, programs are local. Check with your city or county government or Google “down payment assistance” to find local programs. Some of these programs have income limits; others require first-time buyers to complete a homeowners education course.
As with down payment gifts, tell your lender and real estate agent as soon as possible if you’ll be using down payment assistance.
Conventional loans allow for a gift type called a “gift of equity.” This could help if you’re buying a home from a family member. Basically, the seller charges you less than the home’s appraised value. The difference between the home’s value and what you pay serves as a gifted down payment.
For this to work, the current owner must still be an eligible donor, per conventional loan gift guidelines, and must own and have equity in a piece of property.
Here’s an example: Your parents own a second home worth $300,000 but have agreed to sell it to you for $240,000. The $60,000 price difference becomes your 20% down payment.
The paperwork would still show a home purchase price of $300,000, even though you’d borrow only $240,000.
As far as the paper trail, the lender will accept the final settlement statement, also called the final HUD-1. The final HUD-1 statement is provided by the escrow company and displays each fee that’s related to the property sale transaction.
The HUD-1 will show the gift by showing an item stating “Gift of Equity – $60,000,” or something to that effect. This is proof that the intangible equity has been transferred from the seller to the buyer.
The gift of equity may appear to fall within the definition of an interested party contribution since it’s the seller who is giving the gift. However, Fannie Mae and Freddie Mac make this situation exempt from interested party contribution rules when the buyer and seller have an eligible relationship.
Receiving gifts can push you over one of the biggest home buying hurdles, but the down payment is only one piece of the puzzle.
You’ll also need to meet your lender’s:
- Credit score requirement: For conventional loans, the minimum is often 620. FHA lenders can go as low as 580 with a 3.5% down payment
- DTI limits: This stands for debt-to-income ratio. DTI compares your monthly income to your mortgage payment and other debts. Conventional lenders look for DTIs in the 36% to 43% range; FHA lenders can go higher, possibly up to 50% in some cases
- Income documentation rules: Lenders will want to see pay stubs, W2 forms, bank accounts, or tax returns. This proves you earn a steady and reliable income
The good news is that down payment gifts can help you overcome other qualifying challenges. For example, if your DTI is pushing your lender’s limits, a bigger down payment can lower your mortgage payment which, in turn, lowers your DTI.
Before you apply for a loan, use a mortgage calculator to see loan payments for different loan sizes and down payment amounts.
What are gift funds?
When family members donate money toward your down payment or closing costs, lenders call this money “gift funds” or “gifted funds.” Most types of loans allow gift funds now.
Are gift funds for a mortgage taxable?
For the home buyer, gift funds are not taxable. For the donor, gifts are subject to the IRS’s gift tax if the gift exceeds $17,000 in the 2023 tax year.
Who can give gift funds on a conventional loan?
Family members can contribute toward your down payment. This includes grandparents, parents, children, spouses, domestic partners, fiances, blood-related aunts, and uncles.
Are gift funds allowed on conventional loans?
Yes. In fact, if you’re buying a single-family home to use as a primary residence, gift funds can cover all of your down payment and closing costs.
Can a friend give gift funds for an FHA mortgage?
In some cases, friends can give gift funds for an FHA loan down payment. The lender will need proof that you have a long-term friendship with the donor. A high school or college yearbook could provide this proof.
Can you use gift funds toward a second home?
Yes. But if you’re putting less than 20% down on the second home, you’ll need to provide at least 5% of the down payment yourself.
Can gift funds be repaid?
For a loan originator to accept gifted funds, the donor has to give the money with no strings attached. There can be no expectation of repayment.
What happens if you pay back a down payment gift?
If your gifted money is actually a loan in disguise, you’d be committing mortgage fraud. It’s fraud because you would have misled the lender for the purposes of qualifying for the loan. However, if you wanted to return the gift later after you’d paid off or refinanced the mortgage, that would be between you and the donor.
Documenting down payment gifts can be complicated, but the process can be well worth it. For many first-time home buyers, gifts can mean the difference between buying a home now or buying a home years from now.
Receiving a gift reduces the amount of savings needed to close the purchase, and gifts also lower the payment on the future mortgage loan.
With a little education and a willing donor, receiving a gift to be applied toward the down payment on a house can turn out to be a sweet deal for a first-time home buyer.