How To Circumvent Gift Taxes

TIPS & TRICKS
Understanding Gift Funds

🎁 Gift Funds in Mortgage Transactions: Annual Limits and Lifetime Exemptions

Navigating the complexities of securing a mortgage often requires a deep understanding of available financial resources, including gift funds.

These funds can play a crucial role in helping homebuyers reach their down payment goals. However, when planning to use gift funds in a mortgage transaction, it’s essential to understand the differences between the annual gift tax exclusion and the lifetime gift tax exemption.

What Are Gift Funds?

Gift funds are monetary gifts provided by a family member or close associate to help cover the costs of a down payment and/or closing costs on a home.

The IRS has specific rules governing the amount of money that can be gifted without triggering gift taxes. These rules fall into two categories: the annual gift tax exclusion and the lifetime gift tax exemption.

The Annual Gift Tax Exclusion

As of 2024, the IRS allows individuals to gift up to $18,000 per person per year without incurring gift tax obligations. This means that a parent could gift their child $18,000 and the child’s spouse an additional $18,000, for a total of $36,000 in a single year. If both parents make similar gifts, the total amount rises to $72,000—four times the individual annual exclusion amount.

How to Reach $72,000 with Gift Funds

When the Lifetime Gift Tax Exemption Comes Into Play

If the gift amount exceeds the annual exclusion, the excess is counted against the lifetime gift tax exemption, which is currently set at $13.61 million per individual (as of 2024). This means that while no taxes are owed at the time of the gift, the amount is deducted from the giver's lifetime exemption. 

Importantly, any amount used against the lifetime exemption will also reduce the giver’s estate tax exemption, potentially impacting the amount that can be passed on to heirs without incurring estate taxes upon their death.

In the example above, if John’s parents decided to gift more than $72,000 in the same year, the excess would be applied to their lifetime exemption. To report this, they would need to file IRS Form 709, which is used to track and report the use of the lifetime exemption.

🔗 Download IRS Form 709

Documentation and Loan Program Requirements

It's also essential to note that different loan programs—Conventional, FHA, and VA loans—have varying documentation and paper trail requirements for gift funds. For example, lenders might need a gift letter, proof of the donor’s ability to give the gift, and documentation showing the transfer of funds.

Therefore, it’s crucial to consult with your lending professional before moving any money around to ensure compliance with your specific loan program's guidelines.

Final Thoughts

While gift funds can significantly help in purchasing a home, it’s crucial to plan accordingly and understand the tax implications. Exceeding the annual gift tax exclusion brings the lifetime exemption into play, potentially impacting future estate planning.

Disclaimer: We are not tax professionals. It is always recommended to consult with a tax advisor to understand how gift funds might affect your unique financial situation.