If putting 20% down on a home seems impossible, you are not alone. Many homebuyers struggle with the down payment. Before you let it keep you from buying a home, learn how using gift funds may be an option for you.
What are Gift Funds?
If you receive any money to help you buy a home must be in the form of a gift. In other words, the donor should not expect repayment. If there is repayment expected, it becomes a loan, which then needs to be included in your debt ratio.
You can receive gift funds from family members, your employer, or a charitable organization. In other words, you can’t accept money from a stranger walking down the street. You also can’t accept it from someone that isn’t related to you. The only way around this is to prove that you have a longstanding relationship, such as a very close friend that you consider family. This is up to lender discretion though.
How to Use Gift Funds for a Down Payment
Once you establish that a relative or employer is going to provide you with gift funds, you must handle the funds properly. Just accepting the gift and putting the money in your bank account won’t work. In fact, the lender will likely exclude this money from your allowed funds, which could limit your ability for loan approval.
Instead, do the following:
- Create a gift letter – The letter must include all of the details pertaining to the transaction. This includes the relationship between you and the donor, the address of the property, and the amount of the gift. The final sentence should state that the money is a gift and not a loan.
- Document the gift from the seller – Next, you must show proof of the funds’ origination. This starts with the person gifting the money. If they withdraw funds from their savings account, a bank statement showing the funds will suffice. If they sell an asset, proof of the sale will be required.
- Document receipt of the gift – Once you receive the gift, you must document it. The donor should write a check for the exact amount to the penny that was written in the gift letter. Once you receive the check, make a copy of it and deposit it in your dedicated account. Keep a copy of the deposit receipt and give these documents to your lender.
Check With Your Lender
Before you assume you can use gift funds, make sure the lender approves it. Each loan program and/or lender has different requirements. The basic loan program requirements are below:
- Conventional loan – If you make a 20% down payment, 100% of the funds can be given to you as a gift. If you put less than 20% down, you must put some of your own money into the home. The exact amount depends on the lender.
- FHA loan – If your credit score is 619 or higher, you can accept gift funds equal to 100% of the down payment. If you have a credit score lower than 619, 3.5% of the funds must be your own.
- VA loan – You don’t need a down payment, but if you do accept gift funds, you will need a credit score that is at least 619 in order to avoid putting any of your own money down.
Using gift funds for a down payment is possible and most lenders/loan programs make it easy. This is a common practice for first-time homebuyers, but even homeowners that want to move ‘up’ use gifts to help them buy the home of their dreams.