FHA Gift Funds To Buy A House: A Guide
FHA loans help financially struggling borrowers by reducing down payments and credit requirements. But sometimes, that isn’t enough to get borrowers into a home. That’s where FHA gift funds can help.
FHA gift funds can give borrowers the needed boost to afford their FHA loans. FHA gift funds benefit first-time home buyers and low-income borrowers who need help financing their homes. That said, it’s crucial for borrowers and donors to follow specific guidelines to ensure the gift funds are valid. This guide will define FHA gift funds and explain how they work.
What Are FHA Gift Funds?
FHA gift funds are cash or other assets a borrower receives without obligation to repay. The donor provides financial assistance to borrowers unable to meet the expenses of an FHA loan. For example, borrowers use FHA gift funds to afford a home and can apply the money to closing costs, the down payment or mortgage reserves.
FHA mortgages are a type of non-conforming loan that borrowers with financial challenges often use instead of traditional, lender-backed mortgages. The federal government backs FHA loans, reducing risk for lenders. This benefits first-time home buyers and low-income borrowers who are weighed down by debt or struggle to afford a down payment.
Homeownership is expensive, and qualifying for a mortgage can be challenging. FHA home loans alleviate these issues by lowering specific financial standards for borrowers. For example, FHA loans allow borrowers with lower credit to qualify.
FHA gift funds are only valid for FHA loans. Borrowers must meet the following criteria to receive an FHA loan:
- The home must become the borrower’s primary residence.
- The borrower has 60 days to move into the property after closing.
- The house passes an inspection for minimum property standards.
- The borrower must be able to afford the mortgage insurance premium (MIP) for the loan.
- An appraiser approved by the FHA assigns the home a dollar value
- Borrowers with a credit score of 580 or higher need 3.5% of the home’s value as a down payment
- Borrowers with a credit score of 500 – 579 need a down payment of at least 10%.
FHA gift funds are advantageous for all borrowers, but especially those with a credit score of 579 or less because the down payment requirement is higher. For example, a borrower who would otherwise qualify for an FHA loan for $150,000 might not have $15,000 in the bank. An FHA gift fund can give a borrower the assistance needed to qualify for the loan.
Note that some lenders may have their own set of requirements. For instance, to qualify for an FHA loan with Rocket Mortgage®, you’ll need a minimum FICO® score of 580.
Gift Funds Vs. Gift Letter
Gift funds are an excellent way to afford a home when paired with an FHA loan. However, you’ll need a gift letter to ensure that the gift is a help instead of a hindrance. The gift letter spells out who the donor is and how they know the borrower. It assures all parties involved that the money provided will not act as a loan and that the one-time gift is independent of the borrower’s ability to afford their monthly mortgage payments.
When purchasing a home, you’ll submit bank statements to your lender showing you have sufficient income for your mortgage payments. The U.S. Department of Housing and Urban Development (HUD) wants to see consistency and a regular cash flow in your bank account. Because gift funds are a one-time gigantic deposit, they sound alarm bells for underwriters reviewing your financial information.
This scenario is where a gift letter comes in handy. You will need to provide a gift letter for any gift that surpasses 1% of the home purchase price or the home’s appraisal value (whichever is higher). For the letter to be valid, it must declare the money you received is a gift with no intention of repayment on the recipient’s part. Otherwise, the money could be a second loan that will affect the borrower’s ability to pay their mortgage.
The donor’s gift letter should contain the following crucial information:
- The donor’s name, address and phone number
- The recipient’s relationship with the donor
- The cash value of the gift
- The donor’s motive for providing the gift
- The donor’s assurance that there is no expectation or contract for repayment for the gift
- The address of the home being purchased
- The donor’s signature
Donors can make as sizable a gift as they wish, with no tax implications for the borrower. However, gifts of a certain size may have tax implications for the donor. For 2022, a taxpayer can give up to $16,000 without incurring gift taxes.
How FHA Gift Funds Work
Donors who want to provide an FHA gift should follow a specific process to eliminate obstacles for themselves and borrowers. First, donors must have specific reasons for making a gift and should state this in their gift letter. The goal is to ensure HUD the money is not in any way a loan.
Next, it’s critical for the donor and borrower to submit bank statements showing the transfer of money from the donor’s account to the borrower’s. The documents are proof of the gift amount and the date of the transfer.
These steps will make gift funds of cash simple for borrowers to receive. However, donors can also bestow gifts of equity instead of money. In this situation, the donor sells their home for significantly less than its value.
For example, a mother may want to sell her home to her son at a steep discount. The home is worth $250,000, but she wants to pass it on to her son for only $125,000. The transaction will grant the borrower access to $125,000 of equity. The son can use the equity as a down payment to help obtain approval for an FHA loan.
FHA Gift Fund Guidelines
Borrowers must qualify for an FHA loan to receive FHA gift funds. Besides FHA loan standards, HUD has FHA gift fund requirements for borrowers:
- Gifts must originate from valid sources, like bank accounts, bonds or stocks.
- Borrowers must provide documentation showing the gift transferring from the donor to the borrower’s bank account.
- Donors must supply a gift letter stating the funds are not a loan.
- Gifts can be as large as the donor wants, but bigger gifts may have tax implications.
- Borrowers using their FHA gifts for varying purposes may need to provide sufficient supporting documentation.
Who Can Give Funds On An FHA Loan?
FHA guidelines limit who can give FHA gift funds. Fortunately, a broad range of entities can provide FHA gift funds.
FHA Acceptable Gift Donors:
- Family members with a dedicated interest in your life, including cousins, nieces and nephews
- A charitable organization providing financial aid
- Your employer or union
- A close friend with a strong demonstrated interest in your life
- A government program that provides assistance to first-time home buyers
Unfortunately, not anyone can give FHA gift funds. HUD regulations prevent the following entities from providing them.
FHA Unacceptable Gift Donors:
- The property seller (if they aren’t a family member making a gift of equity)
- Gift funds from cousins, nieces and nephews without a close personal relationship with the borrower
- Mortgage lenders
- Home builders
- Real estate agents
The Bottom Line
FHA loans help borrowers afford mortgages. But, when this government program isn’t enough, FHA gift funds can enable borrowers to afford a down payment, closing costs, or mortgage reserves. For gift funds to qualify, they must come from a valid source and have a gift letter releasing the borrower from obligations to repay the money.
FHA gift funds can come in the form of cash or a gift of equity in the home the borrower purchases. As a result, more borrowers can take advantage of FHA loans when they receive gift funds.
If you’re considering an FHA loan to afford your home, start the mortgage process today.