When responsible first-time home buyers need help buying a home, the family bank can sometimes lend a hand.
Younger home buyers face a mountain of obstacles, including rising home prices and interest rates, too few homes for sale and unpaid college debt. Student debt is a major source of trouble. When the National Association of Realtors surveyed recent home buyers who had problems saving up a down payment, 53% of those in the youngest group (37 and younger) blamed student loan debt for their difficulty.
Families appear to be pitching in to help, according to the results of that survey in the 2018 NAR Home Buyer and Seller Generational Trends Report. Among home buyers who made a down payment, 23% of those 37 and younger used a gift and 6% a loan from family or friends — the highest proportion for either type of assistance among all age groups.
Family assistance like this works best when the kids qualify for a mortgage on their own and parents make the purchase more affordable with, for example, a bigger down payment or a lower interest rate, says Jeremy Heckman, a certified financial planner with Accredited Investors Wealth Management in Edina, Minnesota.
First the ground rules
To create a businesslike distance for these transactions, Heckman suggests that parents:
Consider disclosing the assistance to all immediate family
Consider treating all siblings equally
Formal agreements offer important benefits, says San Francisco real estate attorney Andy Sirkin. They define obligations and minimize misunderstandings. And if parent lenders die or become incapacitated, all their heirs can view the transaction and its history.
Ways to help
Here are three ways parents can help make it more affordable for new home buyers to purchase a home:
1. Give money
A gift of money is often best, Heckman says. Parents can write a check for any amount they choose. That’s it — no contract or ongoing commitments. Or they can pay all or part of an expense such as mortgage closing costs. Providing down payment assistance can help new borrowers avoid paying for private mortgage insurance, which helps keep their monthly payment low.
HOW IT WORKS
Strict rules dictate how cash gifts are used in a home purchase, and they vary by mortgage type, lender and lender offer, says Mark Case, a senior vice president at SunTrust Mortgage.
Lenders like to see money gifts — easily traceable checks, bank transfers or wire transfers — in a borrower’s bank account three or four months before applying for a mortgage, Case says. Givers and recipients may need to sign letters confirming that the money isn’t a loan.
When it comes to taxes, anyone can give any other person a gift up to $15,000 in value (money or, say, stocks) in 2018 without filing the gift-tax return IRS Form 709. So a parent with two children can give each of them — and even the children’s partners — up to $15,000 this year without having to complete Form 709. A tax professional can confirm how the rules apply to individuals’ specific circumstances.
2. Finance the mortgage
Parents with cash to invest can become the mortgage lender, offering extra-easy terms, like no closing costs or no down payment. Heckman says they can charge a higher rate of interest on their money than it earns in a savings or money market account and still offer kids a lower-than-market mortgage rate.
“I said, ‘This could be a win-win for both of us,’” says Jay Weil, an attorney in Wayne, New Jersey. He and his wife, Judy, have financed two mortgages for their son Matt and Matt’s wife, Allison.
HOW IT WORKS
Jay and Judy fully funded the younger couple’s first home, a Columbia, Maryland, townhouse. They decided to use a service that facilitates family loans. They worked with National Family Mortgage, which charges one-time setup fees of $725 to $2,100, depending on the loan size, and provides all necessary forms and documents to meet state, local and IRS requirements, guides families through the settlement and filing process and connects borrowers with loan servicers.
Then in 2017, the Weils lent the kids money again, for a $579,900 house in Laurel, Maryland. Matt and Allison got two loans. One was a primary mortgage from SunTrust Mortgage for $259,900, at 3.875%. His parents provided a second mortgage for $260,000 at 1.98%. They used money earned from the sale of their first home to make a down payment.
Family lenders must charge at least the Applicable Federal Rate, the minimum interest rate required to keep the assistance from being considered a gift.
Although riskier for parents, co-borrowing is another option. Mortgages with co-borrowers were nearly a quarter of all new-purchase mortgages in the third quarter of 2017, according to ATTOM Data Solutions, a real estate data company.
Co-borrowing helps borrowers overcome a limited credit history or a too-high debt-to-income ratio, says Case, of SunTrust Mortgage.
HOW IT WORKS
Parents apply for the mortgage, too. They must meet the lender’s credit requirements and sign loan papers with their kids at closing.
Aside from the mortgage itself, a separate family contract can define expectations and details such as who gets how much equity when the home sells and what happens in case problems arise, says Sirkin, the real estate attorney.
For parents interested in being co-borrowers, there are some things to keep in mind:
Not all loans allow co-borrowers, so it’s good to confirm the option when shopping for mortgages
Some lenders may call this step co-signing, which may have different parameters, but the outcome is the same: Parents and children are equally responsible for the loan and any missed mortgage payments
Parents’ credit could be affected, making it hard to finance another big purchase later, even if children make payments on time
With all the headwinds facing first-time home buyers, family help sometimes makes all the difference.