Mortgages that the Federal Housing Administration insures require small down payments of 3.5 percent of the value of the home. But buyers who cannot come up with the sum or who wish to reduce their loan burden by making a larger down payment have the gift of equity as a potential down payment source.
The Gift of Equity
Your income may be enough for you to make monthly house payments, but you may not have the lump sum the lender requires before it will approve your mortgage application. FHA-approved lenders are allowed to accept a portion of the value of the house you are buying as the down payment if the seller agrees to lower his asking price. The difference between the house’s appraised value and the lower sale price becomes the gift of equity. It affords the lender to loan you the money you need while retaining the right to take possession of a house -- if you default -- that is worth more than the amount of the mortgage.
To make gifts of equity, the sellers have to be related to the buyers or able to prove that they used to be in a relationship. To meet this requirement, the seller writes a letter to the lending institution that provides her full name, complete contact information and how she is related to the home buyer. The affidavit should also include the amount of equity she is giving to the buyer, the date the gift becomes effective and a statement that says that the donor does not expect to be repaid.
Although your relative may be willing to make a gift of equity to you, you still have to qualify for a mortgage. The lender requires a number of documents it uses to verify you are credit-worthy. When applying for pre-approval, expect to have to provide your last two W2s and tax returns, your most recent pay stub, recent statements from all financial institutions in which you have funds, your addresses in the past two years, information on open revolving-loan accounts and details on other property you own, your driver’s license and your Social Security card. FHA-insured loans also require a minimum credit score between 600 and 640. You may still be able to obtain financing if your score is below 600, but you must put 10 percent of the value of the house down.
Consult a tax accountant if you are considering making a gift of equity. The federal government may impose the gift tax on it if the equity you give away exceeds the maximum value of cash or property you can pass on to someone else annually without incurring taxes. In 2009, the IRS set the cap for tax-free gifts at $13,000. This figure may change in future years.
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