Gift Letter: Meaning, Additional Gifting Strategies, Mortgages

What Is a Gift Letter?

A gift letter is a piece of legal, written correspondence explicitly stating that money received from a friend or relative is a gift. Gift letters for tax purposes often come into play when a borrower has received assistance in making a down payment on a new home or other real estate property. Such letters state that the money received is not expected to be paid back in any way, shape, or form.

How Gift Letters Work

Gift letters are important because, in general, lenders tend to frown upon borrowers using additional borrowed money for a down payment on a home or other property. "Gifted" money, however, is a different story. A gift letter specifically references the fact that money is a gift and not a loan. The gift-giver must directly write the letter for it to have any validity. The letter also often discloses the relationship between the gift giver and receiver.

A gift can be broadly defined to include a sale, exchange, or other transfer of property from one person (the donor) to another (the recipient). Common forms of gifts include:

• Cash, check, or other tangible items
• Transferring a title to stocks or real property without receiving anything in exchange of value
• Forgiving debt
• Below-market loans

All gifts that exceed an annually determined amount are subject to income taxes if they are made to someone other than a spouse or qualified charity.

Gift Letter and Additional Gifting Strategies

Several gifting strategies rest on gift letters. For example, inter vivos gifting occurs while an individual is still alive and can reduce the taxable estate since the individual no longer owns the property when they die (although inter vivos gifts may still be subject to taxes if made three years before that individual's death). For 2023, the estate and gift tax exemption is $12,920,000 per individual, up from $12,060,000 in 2022.

Many individuals choose to gift assets that will appreciate substantially in the future, such as real estate, particularly if it hasn't increased in value already. This excludes its present worth from the donor's estate and also eliminates future appreciation from the estate. In contrast, gifting assets that have already increased significantly in value is less advantageous, as the recipient will have the same tax basis (carryover basis) in the property as the donor.

If the recipient were to inherit that asset rather than receive it as a gift during the donor's life, the asset's tax basis would be stepped up to the fair market value of the property at the time of death.

Gift Letters and Mortgages

Gift letters often heavily relate to real estate transactions. Consider a situation where a parent provides $100,000 of capital to their child for a down payment for a house. In this situation, the lender will likely want security that this money is a one-sided transaction that is not to be repaid. As part of qualifying for a home loan, the lender may require both the donor and recipient to sign the letter agreeing that the funds are a gift.

Contents of a Gift Letter

There is no singular, universally accepted template for gift letters. In general, a party that requires a gift letter will often require the following contents:

• The name of the donor.
• The name of the recipient.
• The contact information of the donor including the address, phone number, and relationship to you.
• The exact dollar amount of the gift. This may be an estimated value for non-cash transactions that must often be substantiated with supporting documentation.
• The date the gift was given and/or received.
• A statement designating that the funds are a gift, not to be repaid, with no additional remunerations.

The Bottom Line

A gift letter is a written, signed document that outlines that a lump sum of given by one party does not need to be repaid. This letter is often required by lenders when issuing mortgages or home loans, as individuals may be more likely to receive large sums of money in advance of their real estate purchase.