Definition
A Gift of Equity is a transaction in real estate where a property is sold at a price below its market value, and the difference is given as a gift. This often occurs when parents sell a property to their child at a discounted rate. This “gift” can help to meet the down payment requirement, or reduce the principal of the loan.
Key Takeaways
- A Gift of Equity involves the act of selling a property below market value to a family member or other closely related individual. The “gift” is the difference between the actual sale price and the market value.
- From a tax perspective, Gifts of Equity may be subject to the gift tax jurisdiction depending on the value of the gift. However, the IRS offers a lifetime gift tax exclusion limit which can exempt these transactions from tax.
- Also, Gifts of Equity can benefit the buyer by satisfying all or part of the typically required down payment for a property, making it easier to secure a mortgage.
Importance
A Gift of Equity is an important financial term as it refers to the process of selling a home below the current market price to a relative or someone with whom the seller has a close relationship.
The difference between the market price and the selling price is considered as the “gift of equity”. This is significant because it allows the buyer to use this amount as a down payment to purchase the home.
This can lead to potential tax benefits for the giver, while enabling the receiver to potentially secure a mortgage they might not otherwise be able to afford.
It essentially facilitates property transfer between family members and loved ones, removing financial barriers that may otherwise exist.
Explanation
The purpose of a Gift of Equity primarily revolves around facilitating homeownership by reducing the financial burden on the buyer. Often used among family members, this gesture allows a home to be sold at below its market value with the difference being considered a gift.
By doing so, it aids the buyer who might not have the necessary funds for a down payment or to secure favorable mortgage terms. It can also be an effective method of keeping a property within a family without necessitating a home sale on the open market, thereby avoiding costs associated with selling such as agent commission fees or transfer taxes.
In addition to helping the buyer, a Gift of Equity also has estate planning benefits for the seller. If a parent, for example, wants to sell their home to their child but also wishes to reduce the size of their estate for tax purposes, gifting equity in the home can be a viable solution.
Bearing in mind that there may be tax implications depending on the amount of the gift, using a Gift of Equity can strategically bypass financial roadblocks, enabling a seamless transfer of property within a family, while also potentially reducing the estate’s taxable value. It’s a unique financial instrument that enables the leveraging of personal relationships to make transactions more favorable for all parties involved.
Examples of Gift of Equity
Parent to Child Home Sale: A common example of a gift of equity occurs when a parent sells their home to their child. The parent could sell the home for the appraised value, but instead, they choose to sell it for less. The difference between the appraised value and the sale price is considered a “gift of equity”. This allows the child to obtain a home at a cheaper price and without needing a large down payment.
Relative Assisting with Property Purchase: Let’s say a relative owns a property valued at $200,000 and decides to sell it to a family member for $150,
The $50,000 difference is a gift of equity that can be used as down payment. Thus, the buyer doesn’t need to provide the down payment from their own funds.
Spouse to Spouse Transfer: If one spouse owned the property before marriage and the couple decides to refinance the home and add the other spouse to the title, a gift of equity can be used. The spouse who originally owned the home uses the home’s equity as a gift to the other spouse, allowing them to refinance and become an official co-owner of the home with less financial strain.
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FAQ: Gift of Equity
What is a Gift of Equity?
A Gift of Equity is a transfer of ownership of a property to a family member or someone with whom the giver has a close relationship with. Instead of a traditional sale, the property is given as a gift, but the “gift” is the equity in the home.
Who can give a Gift of Equity?
Typically, a Gift of Equity can be given by anyone who has equity in a property. It’s most commonly given by parents to their children, but it can also be given between other types of family members, or even between friends in certain situations.
How does a Gift of Equity work?
A Gift of Equity involves the seller of the property selling it for less than the current market value. This difference between the selling price and the market value is considered the “gift of equity.”
What are the benefits of a Gift of Equity?
A Gift of Equity can help the receiver bypass some of the typical hurdles associated with buying a home, such as coming up with a down payment. It can also help the giver provide for a family member’s future in a highly tangible way.
Are there any tax implications with a Gift of Equity?
There can be tax implications to a Gift of Equity for both the giver and the receiver. It’s recommended to consult with a tax advisor or attorney to fully understand these potential implications.
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Related Entrepreneurship Terms
- Gift Tax
- Equity Transfer
- FHA Loan
- Down Payment
- Real Estate Closing Costs
Sources for More Information
- Investopedia: This is a comprehensive resource for learning about finance and investing terminology.
- Bankrate: It offers a plethora of financial products ranging from loan rates to insurance. Their articles provide knowledgeable insights into various financial topics.
- NerdWallet: They offer financial tools and objective advice to help people understand their options and make the best possible decisions.
- Rocket Mortgage: An online platform providing in-depth articles and blogs about a wide range of finance and housing related topics.
