Owning a home is a dream that is shared by millions and millions of Americans. Several years ago, the national home ownership rate reached a record high as almost 70% of all families owned their own home. This number has fallen somewhat during the last decade, however the dream of obtaining home ownership has remained a goal for many who are presently renting. During the pandemic, more Americans were able to reach their goal of home ownership because of low interest rates that made owning more affordable than ever. More recently, with higher home prices and interest rates, that dream is more difficult to achieve, especially for first-time buyers.
The biggest obstacle to purchasing a home is coming up with the down payment. Fortunately, there are programs which allow a down payment from 0% to 5% of the sales price, such as VA, FHA and Fannie Mae and Freddie Mac programs. Yet, even with these low-down payment alternatives, many first time home buyers need help when purchasing their first home.
When you are preparing to purchase a home, it makes sense to consider traditional sources of aid such as our families. Traditionally, American parents have been a significant source of help when their children decide to become part of the community of homeowners. Here are a few important ways in which parents can help their children purchase real estate:
Alleviating cash shortages through gifts. We have already mentioned that the number one obstacle to owning a home is a shortage of cash. Many of the mortgage programs that require small down payments in order to purchase a home also allow some or all of the liquid assets needed for the down payment and/or closing costs to be provided through a gift from an immediate relative such as one’s parents. These programs include FHA and VA, as well as conventional programs.
For example, FHA is a very popular program for first-time buyers and it allows all of the capital necessary for the purchase to come from a gift. The capital required is typically 3.5% of the sales price for the down payment and any closing costs not paid by the seller or through a lender credit.
VA loans are for the benefit of active military and veterans of military service. The majority of VA loans require no down payment and therefore the use of gifts would typically be for those who need help with closing costs, especially when sellers are not contributing towards such costs or a lender credit is not available.
Historically, conventional programs have tended to be less liberal with regard to the use of gifts, but conventional guidelines have been liberalized more recently, especially with regard to guidelines for low-to-moderate income purchasers. In some cases, conventional programs require at least 3.0% to 5.0% of the cash needed for purchase to come from the purchaser, unless the gift constitutes 20% of the total purchase price of the home. Other conventional programs allow gifts for 100% of the required down payment with minimum down.
Did you know that you can give a gift of equity to your child?
Many parents do not understand that most loan programs enable you to facilitate the transfer of a house to a child, by gifting part or all the equity in the home. For example, if you “sold” the property to your child for $400,000 and you had $200,000 in equity in the home, you could gift the child $100,000, which they could use as the down payment. You would then receive $100,000 which could help in retirement. This may be a way of keeping the home in the family, while you start the transfer of assets to an heir. It is highly suggested that you speak to a financial advisor regarding any tax and estate planning ramifications before structuring such a solution.
Purchasing together for income support. Purchasing a home with your children may enable those who do not have enough income to qualify for a mortgage to finance their home purchase. Once again, mortgage programs vary with regard to the allowance of co-borrowers and FHA and conventional low-to-moderate alternatives have the most liberal requirements. Under the FHA program, immediate family members can help a relative purchase without living in the home themselves. VA is the most stringent with regard to co-borrowers, as only the spouse or another veteran who will live in the home can co-sign. Conventional programs vary with regard to their requirements, but once again these have become more liberal with the growth of low-to-moderate income programs.
Purchasing together for credit support. One area in which a parent can help is for children who have a substandard credit history. It should be noted that adding a co-borrower with a clean credit history in no way erases the existence of a poor credit history. On the other hand, a strong co-borrower may be able to make the difference in cases where the credit history of the child is close, but not quite up to standards. It should also be noted that the credit score, which is used for a determination of the rate, would come from the child if it is lower than the parents’ scores.
Cash, income and credit. The three major barriers to obtaining a mortgage and reaching the American dream of home ownership. Help for overcoming these obstacles may be no further away than going back to your roots.
The Federal Reserve Board has shown that homeowners have an average net worth of many times the net worth of renters. Therefore, helping a child enter the world of home ownership may be the most important assistance you can give your children in their lifetime – from both an economic and a social economic perspective.
