Mortgage and Portfolio Loan Guide

gift of equity mortgage

What is a Gift of Equity?

Sometimes it’s nice to be able to pay your rent to family because there is a mutual trust that already exists between tenant and landlord. It’s even better when you can buy your home from a family member. This is one of the cases where you can buy a home with zero down payment with use of a gift of equity.

In this article we’ll go over everything you need to know about how to buy a home from family with a gift of equity and zero down payment.

What is a gift of equity?

A gift of equity refers to the gift provided by the seller to the buyer in the form of existing home equity. In this type of scenario there is no exchange of funds. The seller simply agrees to take less net proceeds at closing, which allows the buyer to have instant equity while providing no down payment.

These types of transactions are common with parents who are selling their home to their child.

 

what is a gift of equity

 

Here is a basic example:

Jimmy has been renting from his parents for 2 years. Paying rent on time faithfully every month.

Instead of putting their home on the market, they agree to sell their home to Jimmy.

The home is worth $200,000 and his parents are looking to sell their home. They are only looking to net $150,000 out of the sale, which means they are willing to provide a gift of equity of $50,000. When the transaction gets to the closing table, instead of little Jimmy coming out of pocket 50K for down payment, the gift of equity is done. This means that he now owns a home that already has 25% equity.

What about closing costs?

Being able to do zero down payment with a gift of equity is nice. But what about closing costs and escrows for taxes and insurance? Good question, glad you asked.

The nice thing about dealing with family is that you can talk things out and get a clear understanding of what the proceeds need to be. In other words, the parent and child can clearly communicate how much funds the parent needs to get at closing for this to make sense for them.

Once that is clearly understood, the sale of the home can be structured in a way to benefit all parties involved with complete transparency.

The way to get closing costs paid for without the buyer having to cover the costs is by adding seller concessions (or seller contributions) to the formal purchase agreement. This is where the seller gives a credit toward the buyer’s closing costs and escrows.

In many cases the seller credits can be up to 6% of the purchase price of the home. Which means that if the sale price is $200,000, the allowable seller concessions can be as high as $12,000. That amount should be more than sufficient to cover costs and escrows. This obviously can vary depending on how much real estate taxes are in your area

So let’s take a look at how that would apply to the case with Jimmy…

Same price as above, at $200,000. Instead of giving a gift of equity of 50K, the parents give a gift of equity of 40K. But now, on the purchase agreement they agree to provide $10,000 in seller concessions.

In this case the loan amount would be $160,000. The sellers still get net proceeds of $150,000, AND the buyer didn’t have to come out of packet to make it happen. It’s a win/win. The loan amount is $10,000 higher (roughly a $50/month difference in monthly payment), but the buyer didn’t have to deplete is assets to make it happen.

Seller concessions are basically a way to finance the costs. They’re really just a matter of structuring the purchase agreement properly to meet everyone’s goals.

Important things to keep in mind.

Appraisal – The only way a gift of equity works is if there is actual equity that already exists. The lender is going to order an appraisal to get an opinion of fair market value. If you’re trying to sell your home for $200,000, but it only appraises for $150,000 then the gift of equity amount needs to be revisited, and the purchase agreement needs to be restructured accordingly. [more on appraisals here]

Documentation – The lender is going to need to verify everything (just like a normal purchase of a home). If the child has been renting, there needs to be legitimate proof of rent. If the child gave a deposit of any amount at the beginning of the lease, there is going to need to be a paper trail.

Acceptable Donor – When dealing with a gift of equity scenario, the seller an buyer need to be related. Here is the definition of an acceptable donor with regard to a gift:

“A relative, defined as the borrower’s spouse, child, or other dependent, or by any other individual who is related by blood, marriage, adoption, or legal guardianship; or a fiance, or domestic partner.”

As you can see, there is a little bit of room for discussion on that. There is a grey area. There are endless “what ifs” on this topic of “related”. Bottom line, don’t try to pull a fast one on the underwriter.  If you’re trying to do a gift of equity, it needs to involve a clear relationship like parent/child for example. Otherwise, there is a chance an underwriter could shoot it down.

Conclusion

Buying or selling a home with the use of a gift of equity can be a very advantageous route to take for a buyer and seller. The buyer doesn’t have to provide a down payment. The seller gets the piece of mind of helping their family achieve the dream of home ownership while getting the proceeds they are seeking.

As always, transparency and communication is key to make the process as smooth and painless as possible.

I invite you to reach out.

Get your questions answered.

If you’re running into any challenges with getting this type of scenario put together, or the buyer doesn’t quite meet normal lending guidelines, you’re welcome to reach out to me with your specific questions.

You won’t be connected with an intern or someone in a call center, you will be connected with me directly.

If I cannot help, I should be able to point you in the right direction at the very least.

 

 

real estate investment loans

 

Comments (29)

  1. Reno G

    Hi Adam, can you offer any insight into how these transactions get accounted and how they should appear on a purchase agreement?

    I thought it was simple: use the market value as purchase price – gift = loan.
    $520K market value
    -$205K gift of equity
    =$315K loan amount and actual “sale price” for my dad.

    My loan officer was happy and counted it as down payment for a 60% LTV loan.

    But, we get to the CPA and he says it should be a $315K purchase price and the lender should use appraisal value for LTV and down payment credit since this is a family sale. HE says with a 520K sale price the taxes will be $100K for my pops even though he is losing money on the deal.

    Loan officer says no-can-do buying at $315K they cannot utilize a gift of equity that is not in the contract or above the actual purchase price.

    Any help/ideas?

    • Good Morning. Price cannot be 315K while having a loan amount of 315K because that would give 100% loan to value. Even if the “value” is 520K, the loan to value is based on: the lesser or the appraised value or purchase price. Simple solution is to do purchase price of 332K with a gift of equity of 5%. This still allows the seller to net 315K+. I hope this helps. Call me with any questions. 248-894-2763.

  2. Josie

    Hello Adam,
    I have a seller who has a Family member (nephew) who wants to buy his home w/gift of Equity. Just want to clarify, do gifted equity funds get added to purchase price, or just the buyer’s loan amount. Seller does not want to pay transfer tax on gifted funds.

    • Gift of equity would be rolled into the purchase price. So you would just structure the purchase agreement with the price to already factor in the gift of equity. Basic example: 100K price, 10K gift of equity, 90K loan amount. Call me or shoot me an inquiry through the site to discuss this specific scenario offline. All the best!

      • Greg

        Do you have a template that includes a gift of equity clause?

        • Hi Greg. No, a template is not needed. There should be a section in the purchase agreement with blank space or room to add “other” comments. You would put in that section “seller to provide ___% of the purchase price for buyer’s down payment in the form of gift of equity”. Contact me with further questions. [email protected]

  3. Bryan Dunning

    Hello Adam,
    Would I have to live in the home to use this loan structure? I lived in the home for 15 years and still pay the mortage. I purchased another home and moved three years ago. The home I Used to live in is still under my father’s name. It’s also currently rented. Thank you in advance. Great write up!

    • Hi Bryan. Gift of equity can be used on primary residence and vacation home. It cannot be used on investment property.

      • Bob Gregory

        Hi Adam.
        Congratulations on your Marine Corps service and your successful transition to the civilian world..! I retired from the USAF in 2000 after flying for 20 years and understand the transition challenges.
        Writing you today to seek reference to your statement that Gifts of Equity (GoE) “cannot be used on investment properties.” It is my understanding that a GoE can be used on most any asset, with only the tax implications differing, dependent on the asset being sold.
        For example: A wife decides to sell a rental home (an investment property) she owned prior to her marriage to her husband. The appraised value of the home is $400k, the depreciated value is $200k, and to make this example simple we’ll also say that her present mortgage is $200k, which is also the sales price to her husband.
        In this example the difference between $400k — $200k equals a $200k GoE. $200k less the yearly $14k GoE allowed by the IRS equals $186k, which means that the wife, the seller, must report $186k on an IRS Form 709 (United States Gift Tax Return). The wife DOES NOT have to pay any taxes on the $186k as the $186k is then just simply subtracted from her $5.4 million lifetime IRS Gift Tax allowance.
        HOWEVER, in the example above, since it was an investment property, her husband, the buyer, is now subject to paying capital gains on the property, if and when he sells it, whereas if it hadn’t been an investment property and had been her primary residence or vacation home, he would not be subject to any capital gains tax on the $186k.
        Hence, I’m curious as to your reference source regarding your statement that a GoE “cannot be used on an investment property,” and readily admit that I may be entirely wrong in my understanding of the tax laws regarding GoE’s…

        Best regards and best of luck to you!

        Bob

        • Prosperino Gallipoli

          Bob, you are correct. You can use a “Gift of Equity” to sell an investment property, that’s what my father did with me.
          In your example above, if the husband was going to use the home as his primary residence, he can use the $200 “gift of equity” toward closing costs and down payment; basically get a loan with no money down.

          BUT, if the husband is buying a vacation home or investment property, the bank will not count the gift of equity; they will treat it as a sale at $200K and he will have to come up with closing costs, and his $40K down payment to buy it.

          “Gift of Equity” is purely a home loan qualification term coined by Fannie Mae to let people buying homes from family under market value get a loan with no down payment and closing costs.

          It’s just a very complicated loophole to allow banks to make conforming loans with nothing down and no buyer money when the buyer receives a discounted property from family members. It’s a good one, it saved me from having to save 20% down payment on my house; to only put in about $500, and still get a good rate as if I put 200K down.

          Does that make sense?

  4. Rick

    Hi Adam, I’m trying to sell my house to my brother. It was original purchased as a family home, and few years later I moved out after getting married. He and our parents lived there and paying FMV HUD rent and claimed it as a rental for about 8yrs. We want to sell it to him to cover the existing loan balance.

    FMV = $600k,
    Loan Balance = $180k
    Original purchase = $410k.

    Any insight of this transaction? There should be plenty of equity in the house to get a loan to $180k or am I missing something in the calculation? Can we sell a property at the loan value and file the 709 Gift form afterwards or does it have to be done during Title Escrow?

    • Hi Rick, I am unfamiliar with “709 Gift form”. But the structure of the new loan and purchase agreement would depend on how much you need to net out of the deal. Contact me for further instructions [email protected]

    • Prosperino Gallipoli

      How nice of you to sell to your brother for such a low price!

      I just did one of these to purchase my home from my dad. The 709 is the IRS Gift form. The seller will file that at the end of the year with taxes. At closing all your brother needs is a gift letter stating you are not requiring repayment, and get a loan officer with some experience with gift of equity.
      I had to “educate” and fight my loan person all along the way to closing to get her to account it right.

      You set it up at the appraisal price, i.e $600K purchase with a $410K gift of equity, and $10K seller credit toward closing costs. it appraises for less, you just reduce your gift amount i.e. 500K purchase and 310K gift. Make sure your title people have done gift of equity so they will know to list it on the HUD form.

      In the end, your brother can use the gift to cover closing costs and down payment and not have to put any money out of pocket to buy; If your tax basis in the property after depreciation is over 190K, celebrate! you will owe no taxes! If your basis is under 190K, you will have to figure out your taxes on the sale; and I suggest you increase the amount he pays so he can cover it with his loan.

      As an aside, there are serious implications to your brother when he decides to sell. Gift of equity fits into “part gift, part sale” IRS tax rules. Your tax basis and obligations get transferred over. He will be paying the same as you would with depreciation recapture and capital gains based on your tax basis of the property as of the sale. You’ll need to do some research, but expect a very hefty tax bill when he sells.

      I did the research and created some excel worksheets when we did my loan; keep in mind most loan officers, escrow agents, and even CPA’s will need some research to figure out how to handle the transaction.

      Good luck!

      • Rick

        Thank you Prosperino for sharing. Our basis is will still be around $350k after adjusting for Depreciation Recapture. What I’m stuck on is what the sale price would be if the loan amount is $190k? If it’s $230k (20% down) as Gift of Equity; what is put on the 709 form when the FMV is at $600k, I’m sure it’ll be $600k-$190k = $410k Gift of Equity. 709 form would state it’s a $410k Gift split with my wife and I? Thanks again.

        • Prosperino Gallipoli

          That’s correct, the gift is split between spouses, so $205k each. Also, if you haven’t gifted money this tax year, you will reduce that amount by the annual limit of 14k. So 205k – 14k = 191k each. i assume you would be putting this toward your lifetime exclusion of 5.29 million (in 2018), so no tax would be due.

          709 gift form (and the purchase contract) will list $205k gift each (minus your annual gift amount) $410k gift of equity, split between the two of you, or $205k each. Fair market value – loan = gift. For tax purposes, your taxes will be based on your receiving $190k on the sale, so if your basis is $350k, you will be taking a $160k loss that you will not be able to write off. The buyer’s tax basis would carry over where you are now at 350k.

          It’s a good idea to get a CPA involved and make sure they know how to handle the transaction for part gift – part sale; there is no tax box for gift of equity, he will need to add it to your selling costs to show it properly.

          • Rick

            I’m following. But confused on how much the sales contract will be. Will it be the FMV or can it be like 10 or 20% above the Loan amount? If it’s the 20% above the loan, will this have any issue on the 709, when the gift letter says Gift of Equity of x and the 709 will show that it is $410k?

            Yes, I’ll be checking with a local CPA, but would like to be a little bit informed to have some questions. Thank you sharing your experience. Do you mind contacting me offline. zzleapy @hotmail

  5. Randy

    Hi, my name is Randy.
    I’m purchasing my house from my mom that we have lived in since 1987,my father recently passed away and she no longer wishes to live here due to moving on avoiding depression and everything involved on that end of things.
    I was approved for a loan and almost closed escrow through Wells Fargo unfortunately i backed out the last few days before closing escrow only reasoning is i dealt there was too much money being paid involved to the bank for the costs of the transactions and etc they were charging me aroun d 40,000$ for the closing,escrow,transfer fees and charges which i had thought the whole time was normal until I spoke with a person who was much more knowledgeable in realestate than yield and said thats way too much
    Here’s the breakdowns for my Situation-

    -owed loan amount (loan amount~147000k, to Wells Fargo)

    -she will the house from her(mom) to me(son) for the remaining amount owed of (~147,000k)+ plus+I will give her and additional (net 30,000k) after the costs of owed loan amount(~147,000k) and me paying closing/title/etc costs involed for this deal. She needs the (net30,000k) out of this deal asap unfortunately, as she has another obligated loan deal for her new home build loan and cannot move forward without her name being removed from this loan I’m purchasing and relying on the (net 30,000k) ,from me to her for this deal, for her loan obligation down npayment to move forward. In other words I don’t have the six month period to accomplish this through the more simplex method however if i need to pay her the (net 30,000k) aside from my loan to pay the owed (~147,000k) plus additional charges involed and what not, we agreed i could use a different means to get her the (net 30,000k) with personal loan/etc.. after my loan is complete and completely removing her name from it, to free up her credit and approval options needed for her new plans, meaning the additional (net30,000) from me to her for this deal doesn’t necessarily have to be involed in my home loan financing, however i do prefer it included for simplicity and saving as much time as possible,if so making the purchase price from owed amount of (~147,000) to a new purchase price of (~177,000k) to include the (net 30,000) amount to her. That being said my options are more difficult now without having the option of waiting if we did process the process of adding me to her original Wells Fargo loan, then removing her from it ,and all the title transfer and etc, then waiting the six months to do a “refie.” For the (net30,000k) to her with hers and mines agreement with this deal.

    Breakdowns-
    -Moms existing loan amount still owed is $147,000k

    -sons agreed net price to give mom additional to buying her loan is a NET price of $30,000, however –
    (This amount is optional either in the home loan purchase or a complete separate method after the loan is completed,i prefer it included within the loan if possible) IF POSSIBLE AND IF SO-

    – purchase price would go from (~$147,000k) up to (~$177,000k) to include the (net $30,000) for her after

    -the apprasol ~6 months ago was appraised with the under complete remodel construction there was no kitchen due to entire new location, no receptacles/trim, no lights/trim,no paint, the list has many etc’s.

    I paid the six hundred some of dollars, chosen by Wells Fargo,the appraisal that listed at -($324,000) at that current time and the conditions during the time of
    – under the conditions of the construction he couldn’t assume the house would be completed for the apprasol, however he mentioned when the house is completed, which it is now, that assumed to be worth ~100,000k more Additonal to his predicted listing/ listed value of ($324,000k)

    In other words if a new apprasol is requested or needed it’s will be worth somewhere around (~$424,000k) however ive been told the lower the listing the better if not needed for tax price reasoning,

    If any one knows the most cost affective yet sufficient/ quickest way to get to the finish line for this scenario it woukld be more than helpful and very very much appreciated useable knowledge to learn and very helpful.

    Thanks for taking the time to help

  6. Lisa M Hennessey

    My aunt is selling her cottage to me. It was appraised at $67k and she has a loan balance of $52k. The plan is for me to do a pay off.She said she is gifting me $10k equity so she can avoid paying capital gain taxes. My lender put the purchase price of my loan at $65k and deducted the $10k.
    My concern is, being that only $10k was gifted,doesn’t that mean my aunt still has $5000 in equity and would have to pay taxes on it? Shouldn’t my loan officer have put the appraisers value down of $67k and $15k have been gifted to me?

  7. Brant

    My wife and I are selling our rental house to my mom and stepfather and want to use a Gift of Equity. FMV of the home is $180,000. The current mortgage balance is $100,000. I am looking to get $12,000 plus $3,000 closing costs for the new loan so that no cash has to be paid at closing. On the purchase agreement would the purchase price be listed at $180,000, new loan amount for the purchase would be $115,000 with and equity gift of $65,000?

    • Good Afternoon Brant, yes, you’re on the right track, but may need to bump the loan amount and seller credits up a little to cover escrows for taxes and insurance. Sending you an email on this now.

  8. Tara

    This question is kind of the reverse of what you’ve been discussing. My mom lives in her home and has no mortgage. She wants to sell to me with a gift of equity, but I want to let her continue to live in the home rent free. She is in DE and I am in SC. Would this be considered a vacation property, personal use, or neither? Am I able to do this with her?

    • Good Morning Tara. This would be treated as an investment property. Gift of equity cannot be done on a traditional/conventional loan, but it can be considered on a portfolio loan. I am sending you an email on this right now.

  9. Tish

    My mother would like me to purchase her home through a Gift of Equity so she can cover all closing cost. I currently live in the home but in order to qualify I would need to go with a FHA loan and payoff all my student loans. The question is – Would my student loan payoffs be considered part of the closing cost? …in other words can my mother gift funds to cover all closing cost including my student loan payoffs?

    • Hello Tish. Yes, we can structure seller concessions into the contract so the costs/escrows are paid out of her proceeds so you don’t need to come out of pocket. Sending you an email on this right now.

  10. DANIELLE S

    Hello, I am looking at buying my parents home. Do I understand the gift of equity correctly in this example?

    $420k- appraisal value
    $350k-sale price
    so There is $70k gift of equity that makes up the 20% down payment of $350k. So the remainder owed is the mortgage of $280k?

    Thanks

    • Yes, that is correct.

      We’ll be happy to help you with the mortgage and make sure to have it structured so that you don’t have to pay for closing costs as well.

  11. Rick

    Hi Adam,
    I’m actually getting into real estate investing and I’ve had a situation come up that I’m curious about. I’ve spoken to a REA briefly and have an appt with a CPA soon. Here it is..

    My grandparents left their free and clear home to my uncle and mother. They have agreed to sell me the house, of which I’m moving into this weekend. I’m wanting to draw up a seller finance offer or have me added to deed via quit claim, stay on for the alloted time (if there is one), take them off deed, heloc or refi, then either pay them off entirely or work out terms. I’m just kind of confused on the options I have here without going the whole down pymt, sale, closing, etc route. This has to happen frequently with other families but I can find very much info on it. I’m not sure exactly how the will is structured until the atty takes a look but he mentioned possibly tenants in common. I’m guessing that’s where I’m added to deed then refi and buy the other two out.?

    A perfect situation would be to get added on deed, do the refi/heloc, take them off, pay sizable down payment to them and work terms out for the rest. That gives them some cash and passive income for a while. Then I can do some updating in the house and then rent it out without using traditional financing, thus saving my traditional investment opportunities for something else.

    I know I’m all over the board here! I’m sorry. I just wish I had all the options in front of me but this is anything but normal lol. Please help! Thanks.
    Rick

    • Thank you for reaching out.

      Step 1: Get a clear understanding of what is happening with the will.

      Step 2: Find out how much your uncle and mother want to net out of the deal if they were to sell it to you.

      Step 3: Buy the house from your mother and uncle, and finance the amount that they need to net out of it plus costs.

      Basic example:

      If they want to net 100K total
      150K purchase price
      110K loan amount
      40K gift of equity
      10K seller concessions to cover costs and escrows for taxes/insurance
      If you structure it that way, you will not have to come out of pocket for closing costs or escrows, and you won’t have to come out of pocket for down payment.

      Please let me know what questions you have. Thank you.

What questions do you have?