How to use a gift letter for your mortgage

One of the biggest perceived barriers to homeownership is saving a large lump sum for a down payment. It’s a common misconception that you have to pay 20% upfront for your down payment in order to qualify for a mortgage. The reality is that some homebuyers may qualify for a down payment as low as 3.5%.

Regardless, having enough slack in your budget to save up for a down payment can be difficult—but that’s where gift funds can come into play. If you’re fortunate enough to have a generous relative, they can offer financial assistance to cover or supplement your down payment.

Let’s take a look at how gift funds can be used for a traditional mortgage and go over some guidelines for how they can affect your mortgage application. It’s worth noting that these guidelines relate to conventional loans that follow Fannie Mae requirements.

What is a gift letter?

A gift letter documents money or “gift funds” given to a homebuyer by a partner or family member to be used for a down payment on a home. Some folks may elect to use gift funds to meet the minimum down payment, while others use gift funds to put more money down and lower the size of their loan.

For example, if you were looking to purchase a $500,000 home and you had saved $25,000 for a down payment (5%), you would be looking to borrow $475,000. Now say a relative gifts you $25,000 towards buying a home. If you supplement your down payment with the gift funds you are now putting down 10% and only borrowing $450,000 which may lower your interest rate
Gift funds are beneficial because the more money you can put down, the less you need to borrow and the smaller your monthly payments will be.

When can you use gift funds?

Gift funds for mortgage can be used to obtain a mortgage for a primary residence or a second home. Investment properties are not eligible to receive gift funds. If you’re not quite sure which type of property applies to you, check out our handy guide to property types.

You can use gift funds for down payment, towards closing costs, or for cash reserves.

Who can give gift funds?

According to Fannie Mae’s eligibility requirements, a gift donor can be a domestic partner, engaged partner, or relative by blood, marriage, adoption or legal guardianship. A donor cannot be an interested party to the transaction such as a real estate agent, real estate developer, or someone affiliated with the builder due to a conflict of interest.

The funds must be given with the intention as a gift with no expectation of repayment— otherwise it would be considered a personal loan and counted as debt in your loan application. All debts are taken into account for your mortgage application to calculate your debt-to-income ratio (DTI), a major factor when determining your ability to repay a mortgage.

Are there gift rules regarding the size?

There is no maximum amount of gift funds that can be used on a primary residence. In fact, your entire down payment and closing costs can come from a gift.

If the property is a second home or a 2–4 unit property and the loan-to-value ratio (LTV) is greater than 80%, then you must make a 5% minimum contribution from your own funds.Gift funds can supplement the rest.

If it sounds a little tricky, don’t sweat it—we can see what rules apply to your situation and walk you through it.

Do you need to disclose gift funds in your mortgage application?

Your lender needs to know about any finances that are contributing to your mortgage as part of the application process. To document the transfer of gift funds from a donor to you, your lender would need to see:

1. A completed gift letter form with the donor’s information and signature (your lender will give you a template and take you through the specifics).

2. Evidence of the gift funds transferred from the donor’s account to your bank account. This can usually be satisfied with a copy of the donor’s check and a copy of your bank statement showing the funds deposited into your account.

Another option is for the gift donor to transfer the funds directly to the lender. In this case, the lender would want to see a copy of the cashier’s check that the donor sent.

If you are funding your down payment with money from other bank accounts or retirement accounts in addition to the gift, the lender would ask to see two months of statements for those accounts as well.

What are the advantages of using a gift?

Using gift funds in a mortgage transaction can have several advantages.
First, receiving a gift to cover the minimum down payment can help clear the down payment hurdle to homeownership or supplement money you’ve already saved to give you a larger down payment.

Second, a gift donor can help to pay the earnest money deposit—i.e. the cash deposit that can take the property off the market or solidify intent to buy—on your behalf, or help to pay off some of your existing debt in order to qualify. These examples would also be considered a gift in a mortgage transaction and would require a gift letter.

Another benefit to using gift funds for a mortgage could be to get your LTV below 80%—saving you the burden of having to pay for private mortgage insurance (PMI). If you want to learn more about PMI, take a look at our article outlining what it is and when you need it.

Should I use a gift to supplement my mortgage down payment?

Gift funds for a mortgage can help many borrowers bridge the gap with the funds they need to make a minimum down payment or achieve a more desirable LTV ratio to help reduce their interest rate.

Alternatively, a smaller down payment may sound risky, but some data that shows how it could be the right fit, depending on your financial goals. It’s worth it to consider what a higher or lower monthly payment would mean for your financial situation.

Are you shopping for a home? Use our calculator to find out how much home you can afford and you can get an idea of how gift funds could make a difference.