Should I Buy a House from a Family Member?
So, you’ve decided it’s time to buy a house. You look at home after home but can’t seem to find the right one. But you do know of a family member who is selling the perfect house… Should you do it?
This answer is complicated. There are plenty of reasons you should (and plenty of reasons why you should not) mix family and home buying. In the end, you will have to make the final decision, but in the meantime, we’re here to help.
What to Look Out For
When buying from someone you know, it can be tempting to treat them like family rather than a seller. It’s important that you still set clear expectations and put them in writing with either a purchase contract (similar to the format realtors use in the area you live) or “escrow instructions”. These instructions are similar to a purchase contract prepared in a for-sale-by-owner when a realtor is not involved.
Settling to the Benefit of One Party
Deciding on a price that both parties are happy with will likely be the most complicated and tricky parts of the transaction. One party might want a good deal on the home and the other party may have to settle on a higher selling price. It’s important that a clear price range is set from the beginning of the homebuying process.
Real estate agents will often perform a comparative market analysis for their clients to help determine a price to list when selling a home. Although this is just an estimate, it’s still a helpful tool in determining a reasonable selling price. So, if you don’t have an agent involved in the transaction, you may want to take advantage of online tools, and do research on the neighbourhood and city.
Disregarding Property Condition
What is the current condition of the home? In most cases, if a house is ready for the market, most of the basic repairs are made, such as leaky faucets, chipping paint, or a broken door hinge. However, bigger repairs or renovations, such as a crack in the foundation, may be needed within the next few years. Even a well-maintained home could have major structural issues. So, who will cover these costs?
Not Having Adequate Representation
A major benefit of buying from a family member is avoiding the cost of a real estate agent. On the other hand, when you subtract the cost, you also lose the advice and representation of a seasoned professional.
Using the incorrect paperwork can lead to lead to legal issues and misrepresentation later on down the road.
Some Restrictions May Increase
Depending on the type of loan you’re approved for and the lender you borrow from, different restrictions apply. It’s best to ask your lender at the start of the process what potential roadblocks you may face when buying from a family member rather than a stranger.
Despite the possible roadblocks of buying a house from a family member, there are plenty of benefits that may make any trouble worth it.
Low or No Down Payment
Did you know that relatives are allowed to gift equity as a down payment?
MORTGAGE LINGO: Equity is the difference between the loan balance and the value of the home.
Unlike a standard down payment, no cash is actually exchanged between the two parties. Eliminating the traditional 15-20% down payment cost could save you thousands of dollars in the end. However, there are a few rules you should be aware of for gifts of equity.
FHA loans are often a popular choice for homebuyers because of the flexibility they provide for lower credit scores, gifted down payments and the ability to get approval with more debt (DTI) compared to your income than conventional loan programs.
FHA loans allow for a gift equity up to the amount of the down payment. Homes sold between family members can have a down payment as low as 3.5% as long as one of the following conditions are met:
- The home was owned by the family member as a principal residence
- The family member purchasing the home occupied the property as a primary residence as a tenant, and can prove they paid rent for six months, as well as provide a copy of a lease
If these conditions can’t be met, then the minimum down payment will need to be 15%, which can be covered by the gift of equity or a combination of equity and your own funds.
Regardless of down payment, a gift letter will need to be provided.
You might be wondering how FHA defines a “family member”. A family member is defined as follows, regardless of actual or perceived sexual orientation, gender identity, or legal marital status:
- child, parent, or grandparent;
- a child is defined as a son, stepson, daughter, or stepdaughter;
- a parent or grandparent includes a step-parent/grandparent or foster parent/grandparent;
- spouse or domestic partner;
- legally adopted son or daughter, including a child who is placed with the Borrower by an authorized agency for adoption;
- foster child;
- brother, stepbrother;
- sister, stepsister;
- aunt; or
- son-in-law, daughter-in-law, father-in-law, mother-in-law, brother-in-law, or sister-in-law of the Borrower.
Conventional loans have more stringent credit score and DTI requirements, but they provide a lower potential down payment than conventional mortgages do. Fannie Mae has slightly different requirements than Freddie Mac when it comes to family-to-family purchases.
Fannie Mae gift of equity requirements: Fannie Mae allows gifts of equity to cover the full down payment on a home, provided the borrower meets the other requirements. You aren’t required to contribute your own money, but you will need a gift letter from the family member confirming no repayment is expected, and the gift of equity is a true gift.
Freddie Mac gift of equity requirements: Freddie Mac allows for a gift of equity from a family member to cover the full down payment without any cash from you as the buyer.
Lower Closing Costs & Flexible Closings
Because there’s no need for a real estate agent to be involved in the closing, this could save you and your family member around 5% of the sales price in an average transaction. Keep in mind that you’ll need to know if you’re inheriting any title issues.
A family-to-family transaction can also be much more flexible when it comes to the closing and moving dates. You can buy and move with ease because you know (and can coordinate) with your family.
Whether you’re buying from a family member or a complete stranger, you need a local, trusted mortgage advisor on your team. Contact us today for more information!equity gift, family, family buying, FHA, home, Housing