How to Use Gift Funds for Your Down Payment
A down payment is one of the main expenses in the home-buying process. Many people do not have enough savings to cover it fully and ask family members for financial help. This is common, and most lenders allow borrowers to use gift funds for the down payment or closing costs. But this type of assistance is not as simple as transferring money from one account to another. Mortgage lenders require clear documentation to prove that the money is a gift and not a loan. There are strict rules about who can give the gift, how the funds must be transferred, and what paperwork is required. If these steps are not followed properly, the gift may not be accepted, and the loan approval may be delayed or denied.
What Gift Funds for a Mortgage Down Payment Are and How They Work
Gift funds are financial contributions made to a homebuyer to help cover the down payment or closing costs. These funds must be given without any expectation of repayment. If the money must be paid back, lenders treat it as a loan, which affects the borrower’s debt-to-income ratio. That could reduce the amount the person qualifies for or result in the mortgage application being declined.
Lenders need to see that the money was not borrowed. To confirm this, they require a signed letter from the donor stating that the money is a gift. They also need to verify the transfer of funds from the donor’s account to the buyer’s account or to the escrow account used at closing. Cash gifts are typically not accepted because the origin of the funds cannot be verified. Gift funds must come from a legitimate and documented source, and the process must be fully traceable.
Who Can Give a Down Payment Gift
Not everyone is allowed to give gift funds for a mortgage transaction. Lenders only accept gifts from people who have a personal relationship with the borrower. This is to avoid any conflict of interest or influence over the home purchase. Each loan program has slightly different rules, but most lenders follow similar standards.
People who can give gift funds typically include:
- Parents, step-parents, and grandparents
- Children and stepchildren
- Siblings
- Spouses, domestic partners, and fiancés
- Aunts and uncles, depending on the lender
- Close friends, if there is a proven long-term relationship
FHA loans allow a wider range of donors, such as employers, labor unions, charitable organizations, and government agencies offering housing assistance. However, no loan program allows gift funds from someone who has a financial interest in the sale, such as the seller, real estate agent, or builder. If the donor does not meet the program’s requirements, the lender will reject the funds.
Which Mortgage Types Accept Gift Funds
Gift funds are allowed under most major mortgage programs, but the rules about how they can be used vary depending on the type of loan. The purpose of these rules is to ensure that borrowers have stable finances and that the gift funds do not create a hidden debt obligation.
Conventional loans backed by Fannie Mae and Freddie Mac allow the entire down payment to come from gift funds for primary residences. For second homes, borrowers must contribute at least 5% of their funds if they are putting down less than 20%. Gift funds are not allowed for investment properties under conventional loan rules.
FHA loans allow borrowers to use gift funds for 100% of the down payment, closing costs, and other approved expenses. This makes FHA loans popular among first-time buyers who may need more financial help. The FHA also allows a broader list of eligible donors, but it still requires full documentation of the gift.
VA loans for military service members and USDA loans for rural homebuyers do not require a down payment, but gift funds can still be used to cover closing costs or to buy down the interest rate. In both cases, the donor must not have an interest in the transaction, and proper documentation is required.
Rules and Limits for Using Gift Money
There is no legal limit to the amount of money a borrower can receive as a gift for a down payment, but lenders and the IRS both have rules to prevent fraud and to track large transfers of money. Lenders must confirm that the gift does not create a new debt. The gift must be transferred directly from the donor to the borrower or to the closing agent, and the funds must be verified with documentation.
Key conditions that must be met include:
- The gift must be unconditional, with no repayment expected.
- A signed gift letter must be provided to the lender.
- The transfer must be documented with records from both the donor and the recipient.
If the gift is large, lenders may ask for the donor’s bank statement to prove that the funds are available. If the gift appears suspicious or the documentation is incomplete, the lender may decline to use the funds in the loan calculation. The process must be transparent from start to finish.
Gift Letter Requirements and Documentation
The gift letter is a formal document used to confirm that the money being given is a gift, not a loan. Lenders use this letter to determine whether the funds are acceptable for the mortgage transaction. Without a complete and accurate gift letter, the funds may be rejected, even if they come from an eligible donor.
A gift letter must include:
- The donor’s full name, address, and contact details
- The relationship between the donor and the borrower
- The exact amount of the gift
- The date the gift was or will be transferred
- A statement that no repayment is expected
- The address of the home being purchased
- Signatures of both the donor and the borrower
Most lenders provide a template for the gift letter, which helps ensure that all required information is included. In addition to the letter, lenders typically ask for further proof, including a copy of the donor’s bank statement, the check or wire used to transfer the funds, and the buyer’s bank statement showing receipt of the funds. The entire transaction must be documented and traceable. If any part of the transfer is unclear or lacks proof, the lender may question the source of funds and delay the loan approval process.
How Lenders Verify Gift Funds
To protect against fraud and to meet federal lending guidelines, mortgage lenders must verify the source and transfer of all large deposits, including gift funds. The goal is to ensure that the borrower is not taking on extra debt and that the funds come from a reliable and permitted source.
Lenders begin by reviewing the gift letter. Then they check the bank records from the donor showing that the funds were available before the transfer. They also need to see a clear record of how the money moved, such as a copy of the check or the wire transfer receipt. Finally, they look for the deposit into the borrower’s account or the closing agent’s account.
If the funds are not properly documented or if they appear to pass through several different accounts, the lender may not approve them. This is why borrowers should avoid transferring the gift money through multiple people or using cash. The simplest and most accepted method is to transfer the gift directly from the donor’s account to the borrower’s or to the escrow account, with all documents saved and provided to the lender upon request.
Tax Implications for Gift Givers
Gift funds used for a down payment are generally not taxed, but the person giving the money may have to report the gift to the IRS, depending on the amount. This has nothing to do with the mortgage lender, but it’s still important to understand for legal and tax purposes.
Under IRS rules, a person can give up to $18,000 per year to any individual without having to file a gift tax return. A married couple can give $36,000 to one person. If a donor gives more than this amount in one year to the same recipient, they must file IRS Form 709. This form reports the excess gift and applies it to the donor’s lifetime gift tax exemption, which is over $13 million as of 2025. Most people will not pay taxes on gifts unless they give away millions of dollars during their lifetime.
The buyer receiving the gift does not pay tax on it. But if the money is not properly documented, and the IRS later considers it a loan or an income source, it could create problems. That’s why it’s important to treat the gift as official and follow the proper steps, even if the donor is a close relative.
How to Avoid Common Mistakes with Gift Money
Using gift funds can help cover the down payment and closing costs, but it’s easy to make mistakes if you don’t understand the lender’s requirements. Some errors are simple but can lead to major delays in the mortgage process or cause the funds to be disqualified.
The most common mistakes include:
- Receiving the gift in cash, which cannot be traced or verified
- Failing to submit a complete gift letter with all required details
- Not showing proof of the donor’s account and the transfer
- Moving the funds through other people’s accounts before depositing
- Waiting too long to inform the lender about the gift
To avoid these problems, buyers should notify their lender early, use formal bank transfers or checks, and gather all necessary documents ahead of time. Every part of the transaction must be clear and easy for the underwriter to review. If the lender has to ask for missing records, the loan could be delayed or denied. Working closely with the loan officer and asking questions if anything is unclear can prevent misunderstandings and keep the approval process moving.
When Gift Funds Can Delay or Jeopardize a Mortgage Approval
Gift funds are allowed under most mortgage programs, but they can still create problems if not handled properly. The lender must be able to verify every dollar used in the purchase, including gifts. If the gift is undocumented or if the donor’s connection to the transaction is unclear, the lender may refuse to accept the funds.
Situations that commonly cause issues include:
- A large deposit appears in the borrower’s account without any explanation
- The gift letter is incomplete or missing
- The donor’s funds cannot be verified through bank records
- The donor has a financial interest in the sale, such as being the seller
- The transfer goes through several accounts, making the source unclear
Any of these issues can slow down the underwriting process or cause the loan to be denied. That’s why it’s essential to handle gift funds carefully and follow the instructions provided by the lender. Full transparency and proper documentation help avoid unnecessary delays and ensure that the gift supports the loan approval rather than creating complications.
Alternatives if Gift Funds aren’t Allowed
If you don’t have access to gift funds or your loan program doesn’t allow them, there are other ways to cover your down payment or closing costs. These alternatives may require more planning, but can still help you achieve homeownership.
Here are some other options to consider:
1. Down Payment Assistance Programs
Many states and cities offer grants or low-interest loans for eligible buyers. These programs often help first-time or lower-income households.
2. Employer Assistance
Some companies provide homebuying help as part of their benefits package. This could include grants or forgivable loans.
3. IRA Withdrawals
If you’re a first-time buyer, you may be able to withdraw up to $10,000 from your IRA without a penalty. Regular income taxes may still apply.
4. Co-Borrowers or Co-Signers
Adding a family member or partner to the loan can help you qualify, especially if they contribute funds or income to the transaction.
Always talk to your lender about these options. They can help you understand what’s available in your area and which programs you may qualify for.
Final Thoughts on Using Gift Funds for a Down Payment
Gift funds can make homeownership more achievable by helping you cover your down payment or closing costs. But they come with rules. To use gift money properly, you need the right documentation, a clear transfer process, and approval from your lender. The funds must come from an acceptable donor and be a true gift with no expectation of repayment.
Start planning early. Talk to your loan officer, involve your donor, and make sure every step is recorded and traceable. When handled the right way, gift funds can be a powerful financial tool to help you secure the home you want without unnecessary complications.