Saving for a down payment can be a significant obstacle for first-time homebuyers. If a child or grandchild is struggling to become a homeowner, you may want to help them out with the assets you’ve managed to accrue. A recent report from J.P. Morgan outlined several techniques that can help parents and grandparents lend a hand with a down payment or closing costs. By combining two or more strategies, the total support they provide could reach into the six-figure range.
Considering tax and financial implications can guide you in deciding how much assistance to provide. Speak with a financial advisor today.
Gifting Funds
Gifting funds for a down payment is a particularly direct way to help. In 2023, in most cases you can give up to $17,000 per year to an individual without filing a gift tax return. If married, you and your spouse can each gift up to the annual exclusion amount for a total of $34,000. For children who have a significant other, you can give a grand total of $68,000.
Lenders generally require borrowers to supply a written letter giving the date and amount of the gift, donor’s name and relationship to the borrower and a statement that repayment is not expected. With a completed gift letter, lenders often permit the full down payment amount to be gifted.
This move can have long-term tax consequences, because gifted funds lower your lifetime gift and estate tax exemption. The lifetime gift tax limit for 2023 is a generous $12.92 million, so it’s unlikely to come into play while you are alive, although it may be relevant for large estates.
Using a Penalty-Free IRA Withdrawal
You can withdraw up to $10,000 from a traditional IRA before age 59.5 for a first-time home purchase without paying the 10% early withdrawal penalty, although income taxes still apply. This benefit can be used for your own home purchase or to help a child or grandchild buy their first home.
If you’re married, your spouse can do the same. That means, as a couple, you can withdraw a total of $20,000 penalty-free.
Remember this $10,000 withdrawal limit is a lifetime maximum per individual. You can help one child or grandchild this way, but you can’t do it more than once.
Withdrawing retirement funds early may impact your own retirement security. Consulting a financial advisor can help determine if an IRA withdrawal makes sense.
Making a Mortgage Loan
If you have the means, you could lend money directly to your child for a home purchase. This lets you set the interest rate and repayment terms, potentially making it more favorable for them than working with a bank. Take care to structure and document the loan properly with a personal loan agreement and be aware of potential gift tax implications.
As a lender, your child’s mortgage payments would provide you regular income. Note that you also take on all default risk. Don’t lend more than you can afford to go without if the borrower defaults.
Co-Borrowing
Children or grandchildren with little credit history or significant existing debt may struggle to qualify for a mortgage. Co-borrowing allows you to co-apply for the mortgage, using your stronger financial history, reliable income and high credit score to offset any weaknesses in your child’s application.
Be aware that, as a co-borrower, you’re equally responsible for the mortgage. If your child misses payments, it could damage your credit score or leave you responsible for the monthly payments. While co-borrowing can help your child achieve homeownership, it involves a serious commitment on your part.
Combining Strategies
Used individually, the above techniques could provide tens of thousands of dollars in home buying assistance. But by combining them creatively, your support could climb much higher.
For example, a married couple could gift the annual exclusion amount to both their child and their child’s spouse. This accommodates a gift of up to $68,000 in 2023. The couple could then each use the $10,000 IRA penalty-free withdrawal, adding another $20,000.
If the couple also co-signed the mortgage, their income and assets could further expand their child’s buying power. With the right planning, six-figure support is achievable.
Bottom Line
Parents and grandparents may be strongly motivated to help children attain major life goals like homeownership. Techniques like co-borrowing, gifting and penalty-free IRA withdrawals can enable meaningful assistance with first-time homebuyers’ down payment and closing costs.
This kind of generosity is not risk-free, though. Helping a child or grandchild purchase a home may not be worth endangering your financial future. With creativity and prudent planning, however, you may be able to help your child or grandchild achieve the dream of homeownership.
Financial Tips
- Before co-signing any loan or depleting your retirement savings, you may want guidance from a financial advisor. Finding a financial advisor doesn’t have to be hard. SmartAsset’s free tool matches you with up to three vetted financial advisors who serve your area, and you can have a free introductory call with your advisor matches to decide which one you feel is right for you. If you’re ready to find an advisor who can help you achieve your financial goals, get started now.
- SmartAsset’s home affordability calculator serves up an answer to the critical question of how much home you can afford to buy.
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