Gift Letters in Mortgages: A Comprehensive Guide

Mortgage Dove

Gift Letters in Mortgages: A Comprehensive Guide

Navigating the complexities of home financing involves more than just securing a mortgage. If you're fortunate enough to receive financial gifts, especially for a down payment, understanding the role of gift letters is crucial. This article delves into the intricacies of gift letters, explaining their significance, particularly in the context of mortgages. 

From their role in real estate transactions to the regulations surrounding gift letters based on loan types and tax considerations, we'll guide you through the essential aspects of utilizing gift funds for a home purchase. Whether you're a first-time homebuyer or exploring equity gifts, this guide aims to clarify the role of gift letters in the mortgage landscape.


What Is a Gift Letter?


A gift letter is an official document that verifies money received as a gift, confirming it is not a loan and the donor does not expect repayment.

Gifts can take various forms, such as cash, checks, tangible items, transferring stock or property titles without compensation, forgiving debt, and providing below-market loans. Although commonly associated with mortgage down payments, gift letters are also utilized for estate planning or equity gifts, often accompanying the sale of real estate below market value, especially when gifting property to a relative.


Gift Letters and Their Role in Mortgages

While gift letters can pertain to various gifts for any purpose, they are most frequently associated with mortgage applications for property purchases. Suppose you've received a monetary gift intended for a mortgage down payment or closing costs, especially when buying a property. In that case, providing a gift letter to confirm that the funds are a gift and not a loan is essential.

In the mortgage loan underwriting process, lenders assess applicants' financial status and verify their ability to repay the loan. The additional debt incurred from gifts may influence the pricing and terms of the mortgage agreement.

For instance, consider receiving a $5,000 wedding gift from your grandparents after getting married. If you plan to use this money for a home's down payment and closing costs, you must assure your mortgage provider that it's a gift, not a loan.

To address this, your grandparents can create a gift letter detailing their relationship with you, specifying the exact amount and source of the funds and explicitly stating that you have no obligation to repay the amount. This letter serves as documentation to satisfy your mortgage lender's requirements.


Regulations Regarding Gift Letters Based on Loan Type

The permissible amount of gifted money for your down payment depends on the loan type you secure. Let's explore how your loan type may influence the acceptance of gift funds.


Conventional Loan

Conventional loans backed by Fannie Mae and Freddie Mac exclusively permit the use of gift funds from specific family members. In the context of mortgage eligibility, family members include:

  • Spouse
  • Parents (biological, adoptive, step-, and foster parents)
  • Grandparents or great-grandparents
  • Aunts and uncles (including step-relatives)
  • Cousins (including step-relatives and adoptive relatives)
  • Nieces and nephews (including step-relatives)
  • In-laws (parents, grandparents, aunts, uncles, brothers-in-law, sisters-in-law, and future in-laws)
  • Children (biological, adoptive, step-, and foster children)
  • Siblings (including step-relatives, foster, and adoptive siblings)
  • Domestic partner
  • Fiancé or fiancée
  • Godparents (Fannie Mae only)
  • Domestic partner’s relatives (Fannie Mae only)
  • Former relatives (Fannie Mae only)


FHA Loans

FHA loans permit most family members to contribute to your down payment as gifts, similar to conventional loans. The distinction lies in the fact that regular FHA rules restrict the use of gift funds from cousins, nieces, or nephews.

Nonetheless, FHA guidelines allow gifts from close friends who exhibit a genuine interest in your life. It may include family members with whom you share a close relationship (like cousins, nieces, and nephews), intimate friends, and even former spouses.

According to FHA guidelines, you can also receive gift funds from:

  • Your employer
  • Your labor union
  • A charitable organization offering financial assistance
  • A government agency or public entity providing support for first-time homebuyers.


USDA And VA Loans

USDA and VA loans offer flexibility regarding down payment gifts, allowing individuals to provide gift funds for home purchases. However, certain restrictions apply, barring contributions from parties with a vested interest in the sale. This includes:

  • The seller
  • The home builder
  • The developer
  • Your real estate agent
  • The seller's agent

The choice of loan will impact the affordability of a home. Begin the application and approval process to assess how much you can afford with various loan types, determining your maximum home price for the house-hunting journey.


Tax Considerations, Timing, and Templates

Now that the choice to utilize a gift for your down payment is made, how can you optimize your loan approval chances? Let us explore the tax consequences of receiving a down payment gift and strategies to mitigate associated risks.


Gift Letters and Tax Implications

Generally, as a gift recipient, you are not responsible for any tax on the money received. However, the giver of the gift may have tax obligations. It's essential to inform them about gift tax laws so they can plan accordingly for the upcoming tax season.

For the year 2021, the annual gift exclusion is $15,000. Your donor must only report something if they give you less than $15,000. They must file a gift tax return if the gift exceeds this threshold.

Filing a gift tax return informs the government about the amount gifted. Still, it doesn't necessarily mean the donor has to pay taxes immediately. Instead, it reduces the current gift from their lifetime gift tax exclusion, which limits the total amount a person can give throughout their life.

It's crucial to note that tax laws are subject to frequent changes. Consulting with a tax adviser is recommended to understand the current tax regulations thoroughly.


Time Your Gift Money Deposit Strategically

Strategically time your gift money deposit to streamline your mortgage application. Lenders typically view assets as secure when they've been in your account for at least 60 days. If you have a significant financial gift for your down payment, consider applying for a mortgage after these 60 days to reduce suspicions from the mortgage company regarding the funds in your account.


Gift Letter Template

Your lender may provide a template for utilizing a gift in your down payment. If not, you can use the sample template below and input your details:


[Donor's name, address, phone number, and relationship to the recipient]

[Recipient's name and new property address]

[Dollar amount of the donated gift and the date the donation was or will be given]

[Specify whether the recipient will use (or has used) a portion of the gift for their earnest money deposit]

By signing this gift letter, both the donor and recipient confirm that the recipient did not receive the gift funds from any individual, business, or entity with any interest in the property being sold or connected to the transaction (such as the seller, real estate agent, builder, mortgage banker, or any associated entity). The recipient and the donor also agree that the gift is non-repayable.

[Your signature] Date

[Donor's signature] Date


The Bottom Line

A gift letter is a formal document confirming that the money received is a gift, not a loan and that the donor has no expectation of repayment. While gift letters can pertain to various types of gifts and purposes, they are frequently employed in mortgage applications for property purchases.

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