The VA loan comes with one very large benefit – you don’t need a down payment. However, there is still the issue of closing costs and the funding fee. You may still need several thousand dollars to cover the cost of the loan. What if you don’t have that kind of money? Are you out of luck in getting a VA loan?
Generally, you have two options. You can roll the costs into the loan, giving you a larger principal balance and monthly payment or you can accept gift funds. We look at both options below.
Accepting Gift Funds
The VA allows borrowers to accept gift funds as a way to pay their closing costs and/or funding fee. You don’t have to contribute a certain amount of your own money for this loan. As long as you are eligible for a VA loan (served enough time and have honorable discharge), you may qualify for the loan program.
A relative, employer, or charitable organization can give you enough money to cover any costs you would need to bring to the closing. For example, let’s say you are taking out a $150,000 loan. The lender tells you that your closing costs will be $3,500 and your funding fee will be 2.15% of the loan amount or $3,225. This means you’d need $6,725 to close on the loan. You can accept up to this amount in gift funds for the loan.
Before you can accept the funds, though, you must use the proper method. You cannot just take a lump of cash and throw it in your bank account. The lender needs to be able to trace the funds’ origination.
Creating a Paper Trail
Lenders look for a paper trail to ensure the money you receive is not a loan. That’s not to say you could not qualify for the loan if you had a loan. However, the lender would have to include the payment in your debt ratio. If you are already close to the 43% limit or it depletes your disposable income, it could affect your approval, though.
When creating a paper trail for gift money, you must track the money from start to finish. Here’s how it looks:
The donor owns stocks that he is going to sell in order to give you the money. He makes an order to sell the stocks. He should keep a copy of that order. Once the order is complete, the donor should deposit the money into a checking account, keeping the deposit ticket for proof. He will then write you a check for the exact amount of money you need. Once you have the check, you will deposit it in the account you’ll use for any fees you’ll pay. You should keep a copy of the deposit ticket and a photocopy of the check.
This is how the lender tracks the money from start to finish. He knows that the donor did not take out a loan potentially for you and you did not take out a loan yourself.
The Benefit of Gift Funds
The VA loan already gives you the large benefit of no down payment requirement. You can borrow 100% of the purchase price of the loan. Where the gift funds come in handy, however, is paying the closing costs. VA loans often have slightly lower costs to close a loan than conventional loans, but they still add up. Assuming the average 5% of the loan amount in closing costs would make your costs on a $200,000 loan $10,000. Then you still have to add on the funding fee equal to 2.15% of the loan amount.
The funds from a relative or employer can reduce the money you have to take out of your own pocket. In some cases, it can be the reason you are able to obtain the loan.
Who Cannot Give Gift Funds
Caution must be used, however, when you accept gift funds. Under no uncertain circumstances can they come from anyone that has a vested interest in the sale of the home. This includes:
- Real estate agents
- Any other party that benefits financially from the sale of the home
Accepting funds from an interested party could be considered a ‘bribe’ or inducement to purchase the home. You must be able to prove that there is at least an arm’s length relationship between the buyer, seller, and anyone contributing funds.
Accepting gift money for your VA home purchase is simple as long as you follow the rules. Always be upfront and honest with your VA lender about where your funds will come from. Don’t worry that they will deny you if you don’t pay your own closing costs. They just need to be able to source the funds to ensure that you are a good candidate for the loan.