How does a "Gift of Equity" work?

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I am having a hard time understanding what a gift of equity is, and how it works. I just talked with a mortgage company, and they tried explaining it to me, but I do not know why I would want to do this.
I am buying my brothers house, for $113,000. It is apprasied at $125,000. The difference being $12,000. Now, the mortgage company, said, I can have my brother give me the $12,000 as a "gift of equity", and rolling that price into the mortgage loan. Why would I want to increase the loan to $125,000, if I can purchase the house for $113,000?

Everything I search on talks about taxes and tax laws, but I do not understand the basics of this first. Can someone explain please?

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The loan you would get will be based on market value of the house, i.e., $125,000. As the amount you are paying is less than actual value of the house it is considered as gift of equity to you. A gift of equity is accepted by lenders to be used for down payment and closing costs.

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So, why would i want the load to be based on $125,000 when I can get it for $113,000 ?

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the loan you are taking is based on the market value of the house, depending on this value the ltv is decided. if the loan to value is more than 80% then generally banks would require you to get a pmi. hope the picture is getting clearer for you now Smile

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Not really.
I do not see why I would want to do this.
And I do not see, why my brother would want to do this.

kenstampe · Posted: Fri Mar 09, 2007 1:24 pm Post subject:

Chris,

Let me help you out.

If you buy the house for $113,000 and make no down-payment you would borrow $113,000 from a lender correct? As a result of your NOT making a 20% down-payment you would be paying for private mortgage insurance or PMI. PMI insures the lender against you not making your loan payments. This is an expense you would prefer to avoid.

The property in question is valued at $125,000 so since you are buying from a family member you can use a gift of equity and here's how...

You purchase the home for $125,000 and your brother gives you a "gift" of $12,000. This money never changes pockets because he is electing to just not make that profit from selling you the house. $125,000 - $12,000 is $113,000 and that is how much you would borrow.

So under either scenario you borrow $113,000. However, under the second scenario using gift of equity, the $113,000 represents 90.4% of the sales price not 100% as in the first scenario.

The advantage to you is a less expensive PMI cost and probably lower interest rates because the lender is setting up your $113,000 loan as something less than the full value of what you are buying.

I hope that helps.

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This is what I tried to explain Chris, but Ken explained it in a much better way Smile

Guest 0.10 Dollars($)

Thank you. That makes some more sense to me.
Is there anything my brother should worry about on his end due to this? He will still get his full $113,000, correct? Any negatives to him for giving the "gift" of $12,000?

carnahandavid · Joined: 21 Dec 2006 Posts: 239 58.40 Dollars($)

Chris,

The value for which he is selling the house to your is less than the present market value, in such instance it is considered as an gift as by now you must be knowing. Gift tax are applicable if the value of gift exceeds the annual gift tax exemption limit of $12,000 which lucky is the exact value of gift your brother would be making to you.

So your brother has no gift taxes due because of the sale, all other things seems to be in place for you to go ahead with the purchase.

David

kenstampe · Posted: Mon Mar 12, 2007 12:10 pm Post subject:

carnahandavid is correct. If your brother is married, you can apply the gift tax exemption by having his wife gift half. In other words, 6k from brother 6k from wife.

Otherwise, there is not a "penalty" to your brother for doing this.

SHARLEE2004 · Posted: Sun Mar 18, 2007 8:03 am Post subject: Gift Equity

The loan amount would be $113,000.00 for you the buyer.
The purchase price would show on the contract $125,000.00 so that your brother may 'Gift Equity' to you of $12k (which would be good for you as it would count as your down payment instead of having to come up with it yourself). The 'Gift of Equity' gives the lender confidence that you will pay your mortgage since there is Equity in the home and your brother gifted it to you. Also, you would qualify for a lower rate and payment because of the 'Gift'. The 'Gift' of equity is almost the same as 'Gift money for down payment'. The reason you would want to do this:

1. Lower rate.
2. Money to show as downpayment.
3. Lower payment.

Now as far as tax liability, your brother would need to contact a tax accountant that does his taxes for advice on his end of the bargain.

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