A Gift Of Equity: Rules And Process

November 10, 2021
Last updated:
November 23, 2021
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A real estate transaction between family members can be complicated, but it can also help lucky homebuyers fulfill their dreams of home ownership. Is there just not enough cash saved for a down payment? If so, a gift of equity could help smooth the way for the sale or purchase. This can be achieved simply by providing the buyer with the money to put down on the home, which then comes back to you after closing.

Understanding the rules and processes of a gift of equity can help you complete the transaction and both parties can come out ahead. Here’s what you need to know.

What Is a Gift of Equity?

A gift of equity takes place when a seller decides to sell a home and gift part of the sales price back to the buyer. If a family member wants to sell a home to another family member in this fashion, this can help a lot if the buyer doesn’t have money saved up for a down payment.

An equity gift can be for any amount. In some cases, a parent or grandparent may wish to sell a home but allow the home equity to serve as a gift to their descendants. If the amount of gifted equity is equal to or greater than 20% of the purchase price of the home, this can help the buyer get a better deal on their mortgage.

Do I Need a Gift of Equity Letter?

A gift letter is needed to affirm a gift of cash is being made to provide a down payment for a homebuyer. Similarly, a gift of equity requires its own letter plus a few added layers of security. A gift of equity letter assures the lender that the gift is not a loan and that there is no expectation for the homebuyer to repay the gift at any time. A gift of equity letter should list the following:

  • The seller’s name, address, and relationship to the home buyer
  • The home’s appraised value and intended sale price
  • The gift of equity amount and the date it is being given
  • A statement that clearly puts forth that the above amount is a gift, and that no repayment is expected at any point in the future
  • Signatures of the seller and borrower

An additional final confirmation from both parties will be required before closing, This is usually referred to as a “settlement” letter, and will note the gift for the transaction.

Will I Have to Pay a Gift Tax?

Technically, the trigger for a gift tax is any gift of cash, real estate equity, or other assets with a value in excess of $15,000. Many people get around this by making multiple gifts. For example, your mother could gift you $15,000 in equity, and your father could do the same, and then both of your parents could also make gifts of equity to your spouse, resulting in $60,000 in real estate equity that can be applied to the market sales price. Additionally when the annual gift amount is exceeded the tax free lifetime gift allowable can be tapped.

As a buyer and recipient of the gift, you wouldn’t be liable for the gift tax. That’s because the gift tax is paid by the giver. Additionally, they can give gifts of $15,000 per year up to a lifetime limit that varies but currently is over 11 million dollars. Check with your accountant or tax professional if you are worried about tax implications causing problems for your parents or grandparents who are helping you buy their home.

What Are the Pros of Gifts of Equity?

The positives of getting a gift of equity when buying a home are many. The main thing is that you’ll be starting out your home mortgage owing less than you would if you had to finance the entire value of the home or if you had to come up with a bunch of cash.

  • You don’t have to come up with a hefty down payment
  • You can get a conventional mortgage if the gift of equity is 20% or more
  • You can avoid private mortgage insurance (PMI) if the gift of equity is 20% or more
  • You can get a shorter mortgage term or lower monthly payments
  • You can pay off your home faster

If you are buying the home from your parents, for example, they can gift you an additional $15,000 per year (up to $60,000 per year if you have two parents and they each give to both yourself and a spouse) which you can use to make mortgage payments and build up equity in your new home even more quickly.

What Are the Cons of Selling a Home Below Market Value?

There’s a possibility of seller’s remorse, which can cause family friction and division. This is especially true if parents sell a family home to one child and other children feel left out. Make sure all matters are fully discussed and everything is done correctly and is in writing to help avoid issues in the future.

Additionally the sales price must be supported by an appraisal. Inflating the sales price in order to provide the gift of equity won’t work unless the home appraises at or above the sales price.

If the rules and processes for a gift of equity are followed, it can be a great way to buy your first home. Just make sure it’s the right move before you buy from family, because that’s where things can always get tricky.

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Why Choose Sammamish Mortgage?

At Sammamish Mortgage, our loan officers can help you find out if a gift of equity is the best path forward into your new home.

Sammamish Mortgage has been in business since 1992, and has assisted many homebuyers in the Pacific Northwest. If you are looking for mortgage financing in Washington State, we can help you get preapproved. Sammamish Mortgage offers mortgage programs in Colorado, Idaho, Oregon, and Washington.

Contact a loan officer if you have any mortgage-related questions or concerns. If you are ready to move forward, you can view rates, obtain a customized instant rate quote, or apply instantly directly from our website.

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