Saving for a down payment on a home can take a long time, especially amid steep mortgage rates and high home prices.
That’s why some Americans are looking to family for help.
In fact, the share of first-time homebuyers who received down payment gifts or loans from relatives or friends during the homebuying process in 2023 was 23%, according to a recent study by the National Association of Realtors. The NAR found 19% received gifts, while just 4% took out family loans.
That makes sense considering home prices continue to hit record highs and mortgage rates remain above 7%, making affordability more difficult for younger buyers who are struggling with student debt and rising day-to-day costs.
Read more: Mortgage rates at 20-year high: Is 2023 a good time to buy a house?
“You have a generation that struggles to find a down payment for their first house,” Mitchell Kraus, the owner of Capital Intelligence Associates, told Yahoo Finance. “I'm fourth generation financial services... My father's done this for 60-something years. And you're working with individual clients, and it's just so much harder to save.”
Intrafamily lending can help Americans speed up the process of purchasing a home in an unfriendly housing market.
“So just understanding really how it's not overly complicated, how it can be done easily, and how you can save a family member a significant amount of money potentially by having a lower interest rate and a little bit more flexibility may be very appealing,” said Jaime Eckels, a certified financial planner and wealth management partner with Plante Moran Financial Advisors.
Here’s how to navigate such financial help.
Do you have sufficient funds?
Those seeking to help should begin by taking inventory of their funds to make sure they can genuinely afford to assist family members in financing their down payment. Those getting the funds should also take into account their finances.
Both need to understand what their income sources and expenses are. For those on the receiving end, know “what your expenses would be if you owned a home, and now you have a mortgage payment and property taxes and everything that comes with homeownership,” Eckels said.
If possible, the experts recommended that buyers receiving help also put at least 20% down on a home. Otherwise, they will also have to pay private mortgage insurance, or PMI, which increases the monthly mortgage payment.
“It's not going to be the first choice because it just adds so much cost to the price of homeownership and takes away some of the value of homeownership, and it makes it harder to build equity,” Kraus said.
Don’t forget the emotional implications of helping out.
Kraus noted that unfairness tends to drive a major wedge between family members. In particular, he said that children or grandchildren resent feeling that their siblings or cousins were treated better than they were.
“Make sure that if you're going to loan [or gift] money to one child or one grandchild, you have the capacity and a willingness to do it for everybody else,” he said. “Otherwise, you're helping one child, and you're probably tearing your family apart.”
Read more: How to buy a house in 2023
A gift or a loan?
It’s especially important to define what help you’re giving.
“People have to be clear-eyed on what they're asking or what they're getting,” said Doug Ryan, vice president of policy and research at Prosperity Now, a housing nonprofit. “Are they getting a gift? And does that trigger any tax implications? It's a good idea to talk to an attorney to get this laid out for you.”
If the down payment assistance is a gift, the maximum amount a gift giver can give another person — aside from a spouse — in the 2023 calendar year without reporting it to the IRS is $17,000. If it's anything more than that, the gift giver will likely need to fill out tax Form 709 to report the gift.
That doesn't mean the gift is taxed. It just means gifts above $17,000 can count against the gift giver's lifetime gift exemption. For 2023, the maximum lifetime amount is $12.92 million in cash or other assets before the federal gift tax comes into play.
Then, there are intra-family loans for down payment assistance. In an intra-family loan, someone with means helps a family member finance their mortgage and then charges them interest. These loans also must be repaid on a schedule.
For a loan, start with an agreement
Eckels recommends hiring an attorney and formally documenting the agreement between family members. The paperwork should include the loan, the rates, and the total payment for the property. Eckels said it was particularly important for the person lending the money to have a lien on the property in order to be able to use it as collateral in the event of a default.
“It's super important to still have the loan documented appropriately. And so oftentimes that means bringing in an attorney to make sure that the proper documents are drafted in order to again make sure that the terms are all laid out clearly what happens in the event of default,” she said. “Also to make sure that the proper paperwork is on file because there is you know, state and county specific real estate liens that need to be reported and filed as well.”
Make sure any loan complies with federal regulations
The interest on the lent money must be greater than or equal to the applicable federal rate in order to qualify as a loan rather than a taxable gift by the IRS. There are short-term, mid-term, and long-term rates based on the duration of the loan. Lenders need to know what the buyer is expected to pay back because it's part of the debt-to-income equation used to qualify applicants for a mortgage.
In some cases, a loaned down payment may not be allowed, Ryan said, if the borrower fails to comply with federal rules by not charging the appropriate applicable federal rate. That could constitute mortgage fraud.
Additionally, a traditional mortgage lender may require any loan from family to be secured by some kind of collateral that the buyer has, such as a car or other asset, according to LendingTree. The person loaning the money may also be required to provide a written statement attesting to the terms of the loan for the mortgage application process.
Find an intra-family mortgage company
Catherine Valega, a financial planner from Green Bee Advisory, recommended that those seeking loans from family members to purchase a home find an intra-family mortgage company. Such companies can help formalize loan repayment and ensure that all tax documents are properly filed. Valega explained that such an arrangement can help mitigate snags in the repayment process.
“It's very easy to be like, ‘Oh, hey, Mom, I can't make a payment.’ Right?” she said. “So I would always say if you're considering a long-term loan, well, I probably would engage with one of these services that helps you service the loan and make sure all the tax documents are filed correctly.”
Maintain an open dialogue
Eckels pointed out that providing monetary assistance — especially when the money is loaned — can often shift the dynamics of family relationships and create tension where it didn’t exist. In particular, a relative may tend to monitor the spending of the loved one they helped out.
“So you kind of open the door to allow other people into your personal space, your personal business, and they may want to be a little bit more involved and that can create some tensions amongst family members,” she said.
The best way to combat that is to keep an open dialogue with their family members, especially when it comes to a loan, which is an on-going financial commitment.
“The number one thing before you enter in any of this loan process or document anything is talk through it talk through every scenario. What would be the case if I lost my job and therefore I couldn't make the payment?” said Eckels. “I think it's just sitting down talking about it, talking through the different scenarios, the structure of the loan, what happens in the event of not being able to make payments. Just having that conversation, I think that's probably the best you can do.”
Dylan Croll is a Yahoo Finance reporter.
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