When it comes to owning a home, shouldering the burden of a hefty down payment and paying off your mortgage over many years can be daunting. For that reason, it would be pretty hard to turn down a generous cash gift a few months prior to securing your mortgage. But how do you take this cash and use it specifically to cover your down payment or mortgage payments? You need to convince lenders this money is not a loan but a gift to use on your house. Gift letters solve that issue. Here’s our guide to them.
Why Gift Letters Are Important
When you begin the process of locking in your mortgage rate and finalizing your loan agreement, you must face underwriting. Underwriting is how your lender inspects your credit score, current income and total assets. That’s all in an effort to determine the extent of its risk in lending to you. When underwriters look at your assets, they are essentially looking to confirm that the money in your account is truly yours. In other words, they want to ensure that any unusually large recent deposits in your account are gifts from others. They want to make sure they are not loans you’ll need to repay.
This lender vetting process is important. It is a prime indicator of whether you can actually afford the mortgage loan. Essentially, the lenders wants to know that you will have the means to pay back the mortgage loan within the prescribed period. But how precisely can an underwriter establish that deposits in your bank account are indeed gifts rather loans? Short answer: gift letters. The underwriter will need the person who gave you the gift to write and sign a uniquely-formatted gift letter.
How to Write a Gift Letter
Let’s assume your parents gift you $300,ooo, with the intent that you will use the cash to pay off your mortgage. If you’re using this money toward most or all of your down payment, the donor of this money (in this case, your parents) must write a gift letter to your mortgage company. In the letter, the donors must specify that the money is a gift. They must explicitly state the money is not a loan and you don’t need to pay them back. Gift letters should include all of the following:
- The donor’s name, current address and home phone number
- The donor’s relationship to the client (e.g. card is signed, “Love, Mom & Dad”)
- The exact dollar amount enclosed
- The date of the fund transfer (in legible format MM-DD-YYYY)
- A clear statement from the donor expressing that no repayment is expected
- The donor’s clear signature
- The address of the property to be purchased
Even if you include each of these details as prescribed, the gift letter still may not appease the mortgage company. For instance, say you’re looking to receive an FHA loan. In that case, your parents or alternative donors must provide the company with a bank statement in addition to the original gift letter. Every kind of loan includes its own fine print for this matter. As a result, it’s best to do your research and let your donors know the deal upfront.
Who Can Give a Gift Letter?
In general, you can accept and deposit a monetary gift from anyone who is kind enough to give you one. If you intend to put these gifts toward your down payment or mortgage payments, the donors must be relatives, fiancés or domestic partners only. This is the strict regulation for Fannie Mae payments. The FHA loosens the regulations slightly, though. The organization also allows donations from employers, charities, government agencies or even just old friends.
These restrictions exist both for conventional and FHA loans. That’s because lending companies want to be certain that these gifts are indeed genuine. In other words, they want to ensure that these really are gifts, not just loans in disguise. For this reason, the gifts can’t come from people or entities who would directly benefit from the home being sold to you. This further reduces the chance of loans you’re liable to repay. Gift letters help ensure the the legitimacy of the monetary gifts relatives give you.
The Bottom Line
It may not immediately make sense how much paperwork it takes just to deposit and use a cash gift. But it’s likely to be worth it. It could be the deciding factor between whether you or not you can afford to purchase a home.
By granting you a monetary gift, the giver is able to lessen the savings that you’d otherwise need to close the transaction. The gift, depending on its amount, may also significantly decrease your monthly mortgage payments in the coming years.
If you have conducted thorough research of the rules and regulations, consider having a kind associate or family member help you with a cash infusion. Receiving a cash gift for the purpose of covering down payment on a house or mortgage payments can be an helpful. That’s especially true for first-time homebuyers. Just make you have a thorough gift letter.
Tips for Buying a Home
- A great credit score brings great results, especially with homeownership. If you maintain a high credit score, you may be eligible for better mortgage rates, which result in lower monthly mortgage payments.
- Buying a home should not mean sacrificing your other financial goals! If you’re unsure whether homeownership is in the cards for you at the moment, consulting with a financial advisor could be your best move. A matching tool like SmartAsset’s SmartAdvisor is an excellent way to help the perfect advisor to work with. By answering a couple of questions about your finances, the program will select up to three fiduciaries—out of a pool of thousands of advisors—who directly match your needs. This cuts your heavy lifting in half—for free.
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