Gift of Equity 2026: Fannie, Freddie, FHA Rules and the Gift Tax

One transaction, three audiences

A gift of equity is a family sale priced below value. Three different readers look at the same closing.

• The lender sees a credit to the buyer. Freddie Mac defines it as “a credit to the Borrower from the property seller’s equity in the subject property.” Fannie Mae describes it as a gift “transferred to the buyer as a credit in the transaction.” The question for the lender is whether the credit may count toward the down payment, and whether the donor is an acceptable one.
• The IRS sees a sale and a gift. The Instructions for Form 709 (2025) say the gift tax reaches “sales or exchanges, not made in the ordinary course of business, where value of the money (or property) received is less than the value of what is sold or exchanged.”
• The buyer’s future tax return sees a basis that is neither the market value nor, usually, the seller’s old cost.

Most summaries cover the first reader only. The table of rules comes first, then the tax.

A numbering note: Fannie Mae’s gift-of-equity topic is B3-4.3-05, dated October 7, 2020 on the page. B3-4.3-04 is “Personal Gifts” (dated February 4, 2026), and the gift-of-equity topic points back to it for the donor and contribution rules. Freddie Mac keeps it in Section 5501.4 (effective July 1, 2026), not in the section on borrower’s own funds, 5501.3.

Who may give it, and what it can pay for

Source: Fannie Mae Selling Guide B3-4.3-05 and B3-4.3-04; Freddie Mac Guide Section 5501.4 and Glossary; HUD Handbook 4000.1 PDF at hud.gov (sections last revised August 14, 2019), read October 26, 2026. “Not addressed” means the passage we read does not say; it is not a statement that the rule is absent elsewhere.

Three points sit behind that table.

It is a down-payment tool, not a cash tool. Fannie Mae says it “can be used to fund all or part of the down payment and closing costs (including prepaid items)” and Freddie Mac bars it as “Cash back to the Borrower.” If the credit exceeds what the buyer owes at closing, the lender is unlikely to let the excess be paid out (our reading of the Freddie Mac rule; Fannie Mae’s page does not address it).

FHA’s family test is a list. The handbook defines “Family Member” as a list of relationships, and the list we read has no nephew, niece or cousin. A seller who is an aunt qualifies; a seller who is a cousin may not. FHA’s identity-of-interest rule caps loan-to-value at 85 percent on a principal residence, but the cap “may be exceeded” when the borrower buys “the Principal Residence of another Family Member.” We read a 2019 revision of the handbook; HUD updates the online version, so ask the lender for the current wording. We could not open VA’s lenders handbook as text, so VA is not verified.

Second homes and 80 percent. Both agencies allow a gift of equity on a second home, but above 80 percent loan-to-value Freddie Mac requires a down payment of at least 5 percent from the buyer’s personal funds, and Fannie Mae requires a 5 percent minimum borrower contribution from the borrower’s own funds. A buyer relying wholly on the credit for a second home above 80 percent is therefore outside both rules.

The appraisal, the contract and the letter

Fannie Mae’s loan-to-value rule says: “The property value is the lower of the sales price or the current appraised value.” The gift of equity does not change that test. With a $600,000 agreed value and an 80 percent loan of $480,000, an appraisal at $570,000 makes the loan-to-value 84.2 percent (our arithmetic), even though the family agreed on $600,000.

Two documents carry the gift. Fannie Mae lists “a signed gift letter” and “the settlement statement listing the gift of equity”; Freddie Mac requires that “Receipt of the gift of equity must be reflected on the Settlement/Closing Disclosure Statement.” The letter states the actual or maximum amount and that no repayment is expected. A contract at $480,000 with no credit line would leave the lender without the document it asks for (our reading), which is why the structure is settled with the lender before the contract is signed.

For the IRS, the structure does not change the arithmetic: whether the contract says $600,000 less a $120,000 credit or simply $480,000, the money the seller receives is $480,000 and the gift is the rest (our reading of 26 U.S.C. 2512(b)). The lender’s appraisal and the gift tax value are separate questions, but the Form 709 instructions say to “attach any appraisal used to determine the value of real estate,” so the appraisal ordered for the loan is likely to be the one the IRS sees.

The gift tax: what the seller reports

Section 2512(b) is one sentence: where property is transferred “for less than an adequate and full consideration in money or money’s worth, then the amount by which the value of the property exceeded the value of the consideration shall be deemed a gift.” Treasury Regulation 25.2512-8 carves out sales “in the ordinary course of business (a transaction which is bona fide, at arm’s length, and free from any donative intent).” A gift of equity is donative by definition, so the exception does not help.

What follows for 2026:

1. The annual exclusion. Rev. Proc. 2025-32, section 4.42(1): “the first $19,000 of gifts to any person (other than gifts of future interests in property) are not included in the total amount of taxable gifts.” It is per giver, per recipient, per calendar year, and it is shared with every other gift the same person makes to that buyer in 2026, such as cash for the closing costs (our reading).
2. Form 709. The 2025 instructions (the 2026 edition was not posted) say a return is generally due if you give a person more than $19,000 in a year, and that it is due no later than “April 15, of the year after the gift was made.” For a 2026 closing that is Thursday, April 15, 2027, 171 days after October 26, 2026 (our arithmetic). Adequate disclosure includes “A description of the transferred property and any consideration received by the donor,” so the return states the price actually paid.
3. The lifetime exemption. The taxable part of the gift (the gift less the exclusion) reduces the basic exclusion amount, $15,000,000 for 2026 (Rev. Proc. 2025-32, section 4, paragraph .14). No tax is due until cumulative taxable gifts pass it, but the amount used does not come back. Our annual gift tax exclusion page and the estate tax exemption page set out how that exemption is shared with the estate tax, and our Form 709 page for unlisted real estate interests covers the return itself.
4. The buyer owes no income tax on it. 26 U.S.C. 102(a): “Gross income does not include the value of property acquired by gift, bequest, devise, or inheritance.”

A worked example: a $600,000 home sold for $480,000 (our arithmetic)

Every number below is our assumption for a hypothetical family. A seller who owns the home alone sells to an adult child. The agreed and appraised value is $600,000, the seller’s adjusted basis is $180,000, there are no selling costs, and the contract shows a $120,000 gift-of-equity credit. The buyer takes an 80 percent loan. Each cell is arithmetic, not a forecast, and no other 2026 gifts to the buyer are assumed.

If the sellers are two spouses who own the home together, each is treated as giving $60,000 (our reading), each has a $19,000 exclusion, and each reports a $41,000 taxable gift, $82,000 in all; each files a Form 709. If the appraisal had come in at $570,000, the loan-to-value would be 84.2 percent and the gift, measured against that value, would be $90,000 (our arithmetic).

A second case shows the other branch of the regulation. Keep the $600,000 value but give the seller a $500,000 basis and a $400,000 cash price. The gift is $200,000 and the taxable gift after the exclusion $181,000. The seller’s amount realized, $400,000, is below the $500,000 basis, so “no loss is sustained” (26 CFR 1.1001-1(e)(1)). The buyer’s basis is the greater of $400,000 and $500,000, which is $500,000.

The buyer’s basis: where a gift of equity costs you later

The regulation is 26 CFR 1.1015-4(a). In a transfer that is “in part a sale and in part a gift,” the buyer’s unadjusted basis is “whichever of the following is the greater: (i) The amount paid by the transferee for the property, or (ii) The transferor’s adjusted basis for the property at the time of the transfer,” plus any increase for gift tax paid under section 1015(d). For determining a loss, the basis cannot exceed the fair market value at the transfer.

The regulation’s own examples show both branches on a property worth $90,000: paying $60,000 for property with a $30,000 basis gives a $60,000 basis (example 2), and paying $30,000 for property with a $60,000 basis also gives $60,000 (example 3). Our Case A follows the first, because the price paid is the greater number, and our Case B follows the second.

The market value is never the answer. The same home, held by the same buyer, has four possible bases:

Rows two and three are our arithmetic on the assumptions above; the first is cost basis and the last depends on the value at the date of death, which we cannot know.

The extra $120,000 of embedded gain in Case A is the price of the discount: it is taxed whenever the buyer sells, unless the buyer can use the home-sale exclusion on a principal residence. The buyer’s holding period and the sales exclusion tests are covered on our home-sale exclusion page; the choice between giving now and leaving the home later, where the heir’s basis resets, is on our date-of-death appraisal page.

The seller’s side: gain, exclusion and Medicaid

The seller’s gain is on the money received, not on the value: 26 CFR 1.1001-1(e)(1) says the transferor “has a gain to the extent that the amount realized by him exceeds his adjusted basis,” and the regulation’s example 1 (a $60,000 sale of a $30,000-basis, $90,000 property) shows a $30,000 gain and a $30,000 gift. The discount is not deductible, and in Case B a sale below basis produces no loss.

In Case A the gain is $300,000. Section 121 excludes up to $250,000 of gain on a principal residence (or $500,000 on a qualifying joint return) if the seller owned and used it as a principal residence for two of the five years before the sale. A single seller who meets those tests would have $50,000 taxable; spouses filing jointly who meet the joint-return conditions in section 121(b)(2) would have none (our arithmetic). A rental or a second home does not qualify, and for those the full gain is taxed.

There is a non-tax risk for older sellers. Under 42 U.S.C. 1396p(c), a state Medicaid plan must make an institutionalized person ineligible for certain services for a period if that person or the spouse “disposes of assets for less than fair market value” on or after the look-back date, which is 60 months before the application for transfers made on or after February 8, 2006. A below-value sale may be one such disposal for the $120,000 difference (our reading); state manuals differ and we have not verified any. Our life estate deed page shows how the look-back works on a deed.

Questions to settle before the contract is signed

1. Is the house a primary residence or second home? An investment property is outside both agencies’ gift-of-equity rules.
2. Does the loan type allow this relationship? FHA’s family list is narrower than Fannie Mae’s.
3. How does the lender want the credit documented, and does the appraisal support the agreed value?
4. What is the seller’s adjusted basis, and is the seller’s home-sale exclusion intact?
5. Has the seller already used the annual exclusion for this buyer in 2026?
6. Does the seller need long-term care in the next five years, and does the state look back at sales below value?
7. What does the buyer’s basis, not the market value, do to a future sale?

Rules and numbers here are public documents, not tax, legal or lending advice. A CPA or tax attorney must file the Form 709 and run the basis; the loan officer decides what the lender will accept. State transfer taxes and property-tax reassessment of a family sale were not researched.

FAQ

Sources, read and saved on October 26, 2026: Fannie Mae Selling Guide B3-4.3-05, B3-4.3-04 and B2-1.2-01 (selling-guide.fanniemae.com); Freddie Mac Single-Family Seller/Servicer Guide Section 5501.4 and Glossary (guide.freddiemac.com); HUD Handbook 4000.1 (PDF at hud.gov, gift-of-equity sections last revised August 14, 2019); Rev. Proc. 2025-32 and Instructions for Form 709 (2025) (irs.gov); 26 U.S.C. 102, 121, 1014, 1015 and 2512 and 42 U.S.C. 1396p (Legal Information Institute, Cornell Law School); 26 CFR 1.1001-1, 1.1015-4 and 25.2512-8 (eCFR). Not verified: VA rules, the current online FHA handbook, the 2026 Form 709 instructions, state transfer taxes and state Medicaid manuals. Arithmetic marked “our arithmetic” is ours and is not a source.