The down payment is often the hardest part of the home buying process. It’s often the reason people continue to rent, rather than buy a property, because they don’t have enough money to put down on the home.
Fortunately, many programs allow the use of gift funds. In other words, a family member, close friend, or employer may gift you money to put down on your home. Many people wonder about the tax implications of doing this. Does it affect you, the donor, or neither?
Accepting Gift Funds
As the recipient of gift funds, you’re off the hook when it comes to the IRS. They don’t tax the money because the donor already paid taxes on it. The money is a gift, not money you earned for doing something.
Of course, this must be documented so that the IRS knows it is a gift. Fortunately, lenders require this too. The donor must write a letter that states the money is a gift, the reason for the gift, and the amount provided. As long as the donor puts a statement in the letter that this money is a gift, you don’t have to worry about the taxes on your end.
Giving the Gift Funds
The donor may or may not have tax implications for giving you money. It depends on the circumstances. The important thing to know is that the donor probably won’t have to pay taxes this year or the year they gift you the money. Here’s why.
Each person has a lifetime amount they can gift without tax implications. That lifetime cap is $11.4 million right now. Remember, this is over an entire lifetime. On top of the lifetime cap, each person has a $15,000 exclusion per person. What this means is that the first $15,000 that you gift to any one person won’t count toward your lifetime cap and you won’t have to worry about paying taxes on it.
Here’s an example:
Your dad agrees to help you with your down payment. He offers to give you $15,000. The lender approves it, so you accept it. Your dad doesn’t have to pay any taxes on the gift he gave you and it doesn’t decrease his lifetime cap because it’s not over $15,000.
Now if your dad gave you $25,000 for your down payment it would look a little different. Since the $25,000 is more than $15,000, the $10,000 difference would count against his lifetime cap. Now obviously he still has a long way to go before he meets the cap, but it’s worth knowing that it decreases the cap.
Married Couples and Gifts
The maximum gift limit applies separately to married couples. In other words, the gift must be in one spouse’s name or the other – not both. This can work to your advantage. You can split the gifts if the total amount puts either of you over the $15,000 limit. For example, a $30,000 gift could be $15,000 from your dad and $15,000 from your mom. This keeps them exempt from the taxation while staying within the law.
Filing Taxes as a Donor
Keep in mind that even if a donor doesn’t owe taxes for gift funds, he or she may still have to file the proper tax forms. Donors must complete IRS Form 709 – US Gift Tax Return. The form must be completed in order to keep track of the gifts provided that affects your lifetime maximum. You must file the return with your standard 1040 by April 15 (October 15 if you extend).
Handling Gift Funds with Your Lender
Aside from the tax implications, you as the recipient must know what your lender requires. Don’t accept gift funds without first talking to your lender. Find out what they need in regards to proof of the gift. A gift letter is a given – all loan programs require that, but what else do they need? Many lenders require a paper trail, ensuring the money belongs to the donor and isn’t a loan somewhere down the line that affects your debt ratio and your mortgage eligibility.
Lenders will tell you how to handle the disbursement of funds and what proof they need that the transaction took place. Working closely with your lender and your donor’s tax advisor will have the best outcome. Everyone will come out of the process with the end goal met – helping you to buy a home.