gift funds: Loan and Down Payment assistance

Today I want to talk about the down payment for a house, and specifically diving into your options for getting assistance with the down payment.

Of all my friends and clients that I’ve ever spoken with, a common thread has always been there which is, “I can afford the mortgage, I just haven’t saved up enough for the down payment.”

Now I’ve gone into detail in other videos about the pros and cons about putting 20% of the purchase price as a down payment to get a conforming loan instead of a loan that requires mortgage insurance.

But I won’t go into that today, instead I’m going to talk about many of your options should you decide that you want to purchase a home and get assistance from someone close to you, the most likely option being family.

Here is the reality: over and over we are seeing parents help their kids out with their first home purchase. And why not? Parents know that financially their wealth is going to be passed on to their children when they pass away regardless, so they figure they would rather see their kids happy when they are alive.

That may sound a bit morose, but I can guarantee you that estate planning is a huge concern as parents begin to age.

So let’s talk about the different options for having a parent or family member assist you with your first home purchase as well as the pros and cons.

The first option worth exploring is using Gift Money for the down payment.

You can use gifted funds to make a down payment, but your mortgage lender will want to know some details before they allow you to use it. A friend or family member will qualify as long as they can prove they have a standing relationship with the buyer. Usually this is in the form of a letter, which both parties sign, and more importantly the key word here is “gift”.

The gift letter states that this money is NOT a loan and it is not intended to be repaid. If so that could be considered mortgage fraud, which is why it is very important that the person giving you the money be someone who you have a rock solid relationship with.

The lender will also require evidence of the liquidity of the funds for the gift. Usually this is in the form of the gift-giver’s bank statements to show they have the funds to give the buyer as much money as is promised. They may also ask for a bank statement from the buyer’s account to show when the money was transferred, too. Basically, the lender wants to know the funds are in your account prior to closing on the property.

The next question I get in regards to gift funds is, how much can be gifted for a down payment?

In almost all cases, there’s no limit on the amount of gift money that can go into a down payment, as long as the buyer is purchasing a primary residence. However, if someone uses a down payment gift to buy a secondary or investment property, they have to pay at least 5% of the down payment. The rest can be a gift in that instance.

A little tidbit about gift money is a term called “seasoned money”. If the money for a down payment has been in your account for a significant period of time, usually at least a few months, you can avoid the gift documentation. However, mostly commonly I see parents that have investment accounts like mutual funds or bonds, and are liquidating those funds only once the property has been identified to purchase.

As a friendly reminder, buying a house is far more than just a down payment. Remember there are closing costs that include escrow fees, title fees, appraisal fees, credit report fees, and mortgage underwriting fees. A lender, as well as the listing agent, will likely ask to see that the cash to cover all of these, which is due at closing, is there in addition to the down payment.

How about some of your other options if you don’t want to do a gift? There may be instances where you cannot get a loan because you don’t have quite the income, or you don’t have your current income for long enough, or a high enough credit score.

In this instance you can explore co-signing, which means that someone, again likely a family member or very close friend, signs for the loan in addition to you. It’s basically a way of taking someone with stronger financials and combining forces with them.

Co-signing a loan means instead of just you, the lender will take the co-signer’s debt to income ratio, credit score, and potentially assets as well. Having a co-signer carries few risks to you as the borrow but actually carries some pretty hefty risks for the co-signer so let’s go over a few of those.

When someone co-signs for the loan, they are now a part of the promise to pay back that loan. That means if you miss your payments, the co-signer is 100% financially responsible to pick up the slack, or they face damage to their credit as well as potential legal action like foreclosure.

One important thing to clarify when you co-sign, you become responsible for the debt—that’s it. You do not take title to the property which means you have no legal ownership of whatever the borrower buys, and you have no right to the property just because you co-sign.

Now you can see that if this is a parent to a child and everyone is aware of those risks, it’s pretty common and straightforward. The point here is to help out the person, we normally assume that the person co-signing has no issue with providing that help.

In many cases co-signing not only provides help with obtaining the loan but also allows a lower interest rate which reduces payments, so it's an extra bit of help above and beyond the down payment.

The final option is to go all the way and put the person helping both on the loan and on the title of the property. This is essentially functioning as a complete co-owner, whether or not they live in the property.

In this scenario, the person is functioning as a co-borrower, and thus you get all of the benefits of using their income and credit to qualify, but now they are on the title of the property as well. You might think, well why would someone co-sign if they could actually co-borrow?

There are tax implications for owning a property instead of just financing that property, as well as additional legal requirements that could affect the co-borrowers ability to purchase another property. In this instance, it’s always a good idea to have the co-signer or co-borrower talk with their tax professional before deciding which route to take.

There you have it, an overview of the many ways in which people can obtain help for purchasing their very first home including gift funds, co-signing, and co-borrowing. If you’re really interested in purchasing a house but worry that you can’t handle the financial side entirely on your own, it may be worth looking into these options.

Speaking from a personal note, many clients that I work with just want their kids to be happy, they’ve lived in their own personal residence for many years and see how much it has grown in value and recognize that this new generation of buyers definitely faces hurdles in regards to home ownership.

But these are a few strategies that can help people get on their feet and jump that first hurdle, which makes all of the subsequent ones for the various homes someone will own throughout their life much more manageable.

Do you have thoughts of purchasing your first house? I love working with first time homebuyers so I’d be happy to discuss anything in this essay or any other questions you might have. Please reach out!