Gift of Equity FHA Loan Rules
FHA loans, are popular thanks to their low down payment requirements. These mortgage loans are insured by the Federal Housing Administration, better known as the FHA. Even though the down payments are lower, it is still a struggle for many buyers to come up with enough money to cover the down payment. When an FHA borrower receives help from their relatives, or a seller that contributes to or runs an affordable housing program it is considered a gift of equity. This gift is to be used to cover the borrowers down payment.
FHA loans requires that borrowers who receive a Gift of Equity must have a minimum down payment of 3.5 percent of the home’s final purchase price. This is much lower than a conventional mortgage loans requires. But even a 3.5 percent down payment is a struggle for some buyers. For example – Consider that the house you want to purchase cost $300,000, with a 3.5 percent down payment you would need $10,500.
FHA Gift of Equity Loan
With the FHA loans, the Federal Housing Administration allows the borrower to rely on family members or friends from a previous relationship to help cover down payment and closing costs.
Gift Of Equity Credit
One option for the borrowers is that they can accept a gift of equity credit. Borrowers can receive a gift of equity when the owner agrees to sell them the house at a price which is below its appraised value.
To clarify a little more in this example: The seller is selling a home that is worth $300,000 for $170,000. This gives the buyer instant equity of $130,000. That’s more than enough to cover a down payment of 3.5 percent which is required by the FHA. By accepting a gift of equity credit the seller, is basically paying the down payment for the buyer.
Both the borrowers and sellers must meet certain guidelines to participate in a gift-of-equity arrangement:
First, the seller must be family members or friends from a previous relationship or must contribute to or run an affordable housing program. In addition the U.S. Department of Housing and Urban Development, which runs the FHA loan program, must approve the seller associated with the affordable housing program.
Also the seller must also truly be giving a gift; sellers can’t expect the buyers to ever repay them. Finally, the sellers must pay a gift tax if the gift of equity is $13,000 or more. Buyers will have to pay taxes on the gift of equity. It counts as taxable income.
To meet this requirement, the seller write a letter providing their full name, complete contact information and how they are related to the home buyer. The letter should also include the amount of equity they are giving to the buyer, the date the gift becomes effective and a statement that says that the seller does not expect to be repaid.
The FHA Gift Of Equity Credit also allows buyers to use cash gifts that come from family members or friends from a previous relationship or someone who runs an affordable housing program. This cash gift is meant to help cover closing costs or down payments. Again, the person(s) making a cash gift must treat it as a gift, with no expectation that the buyers will repay the gift.