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For many homebuyers, coming up with a down payment is the biggest obstacle to homeownership. A 2022 report from the National Association of Realtors (NAR) finds that the median down payment is 13% of the purchase price, which works out to $13,000 for every $100,000 of a home's price. That's a tidy sum, especially for first-time homebuyers who don't have home equity to access for a down payment.
If saving enough for a down payment is challenging, you might consider turning to a family member or friend for financial help. According to NAR's data, 25% of homebuyers between the ages of 23 and 31, and 17% of those between the ages of 32 and 41, received a financial gift from a relative or friend for a down payment. Keep in mind, if you receive money as a gift to help with a down payment or closing costs on a new home, you may need to present your lender with a gift letter.
What Is a Gift Letter for a Mortgage Lender?
A gift letter is a legal document stating that funds you received from a relative or friend are a gift and not a loan. The main reason lenders require a gift letter, which the donating party must also sign, is to document that you and your donor agree you don't have to repay the gift.
While there is no limit to how much money you may receive as a gift, lenders will want an explanation for large cash gifts. A gift letter usually isn't required, however, if the gift has had time to become seasoned, which commonly means it's been in your account for at least 60 days.
So what is the minimum gift amount you must receive for a lender to require a gift letter? Generally speaking, lenders want you to complete a gift letter for any gifts that exceed 50% of your total household monthly income for conventional, VA and jumbo loans. In other words, if you earn $6,000 each month from your job, you'll likely need to provide a written explanation for gifts you receive over $3,000.
The threshold is lower for FHA and USDA loans, which will want a gift letter for any deposit exceeding 1% of the adjusted purchase price or appraised value of the home, whichever is higher.
As you might expect, you must include specific information in a gift letter, including:
- The amount of the gift
- The date you received the gift
- The address of the property you're purchasing
- Your relationship to the donor
- The donor's name and contact information
- The donor's bank account information
- A statement that the gift is not a loan and there is no expectation of repayment
- Signatures from yourself and the donating party.
Gift Letter Template
Now that you know what you must include in a gift letter, here's a gift letter template to illustrate what such a letter might look like. The following template is for informational, not legal, purposes.
I [DONOR NAME], hereby certify on that on [DATE] I gave/will give a gift of $[AMOUNT] to [RECIPIENT NAME], my [RELATIONSHIP (Examples: "friend," "parents," etc.].
This gift is to be used towards the purchase of the property located at [PROPERTY ADDRESS].
I further certify that no repayment is expected, either through cash payment or services from the recipient, or otherwise.
[BANK NAME]
[TYPE OF ACCOUNT]
[ACCOUNT NAME]
[DONOR'S NAME]
[DONOR'S FULL ADDRESS]
[DONOR'S TELEPHONE NUMBER]
By signing this document, I/we hereby certify that funds given to the homebuyer were not provided by any person, business or entity with an interest in the sale of the property, or who is connected to the transaction. Additionally, the donor and the recipient agree that the gift does not have to be repaid.
[DONOR'S PRINTED NAME]
[DONOR'S SIGNATURE AND DATE]
[RECIPIENT'S PRINTED NAME]
[RECIPIENT'S SIGNATURE AND DATE]
How Do Gift Letters Affect Mortgage Underwriting?
As mentioned above, the amount of money you can receive as a gift before you must submit a gift letter varies depending on the type of mortgage. Along these lines, your loan type can affect your gift money in other ways.
For example, Fannie Mae and Freddie Mac conventional mortgages will only accept gift letters from members of your family. However, government-backed loans tend to have more lenient gift requirements. With an FHA, VA or USDA loan, you could receive a monetary gift from a friend, employer, charity or another person who is not a member of your family.
USDA and VA loans allow you to receive funds from almost anyone, but exclusions exist for those with a vested interest in the purchase of the property, such as:
- The current owners of the property
- The person, company and developer of the home you're purchasing
- Real estate agents representing the buyer and the seller
Guidelines for down payment gifts, and by extension gift letters, can also vary depending on the type of property you're purchasing.
- Primary residence: If you're purchasing a single-family home as your primary residence, your entire down payment can come from gift funds. Similarly, you can completely fund your down payment on a multi-unit home with gift funds if you make a down payment of at least 20%―otherwise, you must contribute at least 5% of your own funds.
- Secondary residence: If you're buying a second home, you can fund your total down payment with a cash gift if your down payment is 20% or higher. If your down payment falls below 20%, you must use 5% of your own money.
- Investment property: Cash gifts are not allowed on investment properties.
How Do Gifts for Mortgage Expenses Affect Taxes?
As a gift recipient, you typically shouldn't have to pay taxes on the funds. By contrast, the gift-giver may have to pay taxes, depending on the size of their donation. The annual gift exclusion for the tax year 2023 is $17,000, which means your donor will need to file a gift tax return if their gift exceeds that amount.
Bear in mind, tax laws change regularly, so you'll want to consult your tax professional before you give or receive a cash gift for a down payment.
Don't Forget Your Credit Score
One of the biggest challenges to purchasing a home is coming up with a down payment, and a gift from a relative or friend can help. Still, the down payment is one of many puzzle pieces in the homebuying process. You may need to meet specific minimum credit score requirements to qualify for a mortgage loan, which can vary depending on the loan type.
The interest rate on your home loan is another important factor since a lower interest rate means a lower monthly payment. Maintaining good credit is essential if you want a low interest rate, as lenders tend to offer their best rates to borrowers with the highest credit scores. Remember, even a minor interest rate reduction could potentially save you thousands of dollars over the life of your loan.
It's wise to take time to build your credit before applying for a mortgage to improve your chances of approval for a loan with favorable terms. You can start by checking your credit report and credit score for free to discover where your credit stands.