If you're planning to give a large sum of money to someone—whether it's a family member, friend, or someone else—you may need to provide a gift letter. A gift letter is a document that explains why you're giving the money and confirms that you don't expect the recipient to pay it back. Here's what you need to know to write a strong gift letter:
Understanding the Purpose of a Gift Letter
The main purpose of a gift letter is to provide evidence that the money you're giving is truly a gift and not a loan. This is important because lenders who are evaluating the recipient for a mortgage or other loan need to determine whether the recipient can afford to repay all their debts, including any new ones. If they believe the money you gave was a loan, they may need to include that as a liability that the recipient must repay, which could affect their ability to qualify for a loan. A gift letter can clarify that the money is a gift that doesn't need to be repaid, and thus isn't a liability for the borrower.
It's important to note that gift letters aren't just for mortgages. They can also be useful for other types of loans, such as car loans or personal loans. In these cases, a gift letter can help the lender understand the borrower's financial situation and assess their ability to repay the loan.
Legal Requirements for Gift Letters
In the United States, there are no strict legal requirements for gift letters. However, lenders may have their own specific requirements for what needs to be included, so it's important to check with the lender before writing your gift letter. In general, a gift letter should include details about the donor, the recipient, the amount of the gift, and the purpose of the gift.
It's also important to note that gift letters should be signed and dated by both the donor and the recipient. This helps to ensure that the letter is legally binding and can be used as evidence of the gift.
Tax Implications of Gifting Large Sums of Money
It's important to note that giving a large sum of money can have tax implications for both the donor and the recipient. In the US, each person can give up to a certain amount ($15,000 in 2020) to an individual each year without incurring gift tax. If the gift exceeds that amount, the donor may need to file a gift tax return. Additionally, if the recipient uses the gift to generate income (such as investing it), they may need to pay taxes on that income. It's important to consult a tax professional for advice on your specific situation.
There are also some situations where gift taxes don't apply. For example, gifts to a spouse or a qualified charity are usually exempt from gift tax. It's important to understand the rules around gift taxes before giving a large sum of money to someone.
Importance of a Gift Letter in Mortgage Applications
If the recipient is using the gift money to buy a home, a gift letter is an essential component of the mortgage application process. Lenders will often require a gift letter to verify that the money is a gift and not a loan. The gift letter should detail the amount given, the date of the gift, the relationship between the donor and the recipient, and a statement that the gift does not need to be repaid. The lender may also require proof that the funds have been transferred to the recipient.
It's important to note that the gift letter is just one part of the mortgage application process. The recipient will still need to meet other criteria, such as having a good credit score and a stable income, in order to qualify for the loan.
Overall, a gift letter is an important document that can help both the donor and the recipient when it comes to giving and receiving large sums of money. By clarifying that the money is a gift and not a loan, a gift letter can help the recipient qualify for loans and avoid unnecessary tax liabilities. If you're considering giving a large sum of money as a gift, it's important to consult with a financial professional to understand the implications and ensure that you're following all the necessary rules and regulations.
Essential Components of a Gift Letter
When writing a gift letter, be sure to include the following information:
Donor Information
Include your full name, address, and phone number, as well as your relationship to the recipient.
Recipient Information
Include the recipient's full name and address.
Gift Amount and Currency
Specify the exact amount of the gift and the currency in which it was given.
Relationship Between Donor and Recipient
Describe your relationship to the recipient, whether it's a familial, personal, or business relationship.
Declaration of No Repayment Expectation
Include a statement that the money is a gift and that you don't expect the recipient to repay it.
Date and Signatures
Include the date the gift was given, and have both the donor and recipient sign and date the letter.
Step-by-Step Guide to Writing a Gift Letter
Follow these steps to write a clear and effective gift letter:
Choose the Appropriate Format
You can write the gift letter on plain paper or use a gift letter template. Make sure the format you choose is easy to read and looks professional.
Provide Accurate and Complete Information
Be sure to include all the essential components of a gift letter, and double-check that all the information is accurate and up-to-date.
Use Clear and Concise Language
Keep your language simple and easy to understand. Avoid using jargon or complicated phrases, and make sure your sentences are clear and concise.
Review and Edit the Letter
Before submitting the gift letter to the recipient or lender, review it carefully to ensure it's free from errors and meets all the requirements. Consider having another person read it over to catch any mistakes you may have missed.
By following these steps, you can write a clear and effective gift letter that will help ensure your gift is recognized as such, and doesn't cause any complications for the recipient in the future.
