Seasoned Funds and Paper Trails – Financing Dos and Don’ts

An unexpected $75,000 inheritance from a relative drops into your bank account 3 days before you’re going to close a real estate deal. You think it’s a great thing. But it’s not. In the mortgage-lending world this sends up red flags that will likely delay the final loan approval by at least two more months. In a sellers’ market this can be a disaster if you’re up against a hard deadline to close and the seller has a backup offer waiting in the wings. It’s situations like this that make it imperative that you understand seasoned funds and paper trails.

The reason your real estate deal is delayed is because the mortgage officer is going to need to see the paper trail validating where the funds came from and any strings attached. A lender’s first assumption is the $75,000 is a new loan that you just took out. A new loan throws all of your financial information into question. A new credit report must be run but will probably be delayed 60 days to give time for the possible new loan to appear on it. A loan changes your debt-to-loan ratio that the underwriter calculated when preapproving the loan. The lender may also need to reverify all of your other assets.

Having a big chunk of money unexpectedly appear in your account means obtaining notarized paperwork, certified bank statements, and a myriad of paperwork from people you may or may not know. Even an inheritance involves estate attorneys. It could require the cooperation of an elderly relative with dementia that needs to have everything blessed by a guardian. Documenting seasoned funds and paper trails can become a nightmare if you don’t do it correctly from the beginning.

30, 60, Even 90 Days of Seasoned Funds and Paper Trails

Experienced investors will know most of this information but might pick a new tip or two. New investors want to begin mapping out a standard process to follow for their first and future deals requiring documented funds. First time buyers may find much of this a shock and hopefully aren’t looking for a quick fix if they neglected creating seasoned funds and paper trails from the beginning.

This mostly involves funding the down payment and closing costs. However, in more complex deals it includes reserves and other contingency funds. The place to begin is by setting up a bank account exclusively to gather and distribute the funds for this deal. It makes it easier for the lender to follow the money. The lender strongly wants this account to have signature authority limited to the names that will be listed on the property title or deed. They don’t want a 16-year-old teenager to have ATM access to your down payment. Nor do they want a business partner not related to the purchase to transfer $10s of thousands to an offshore Caribbean account. They want you to be solely accountable for the funds.

Large cash deposits (or a stream of small deposits) are not seasoned funds with paper trails and will always raise a red flag. Cash could be from a temporary part time job you take that pays you under the table or illicit street drug sales. The point is, these cannot be verified as coming for a legitimate source. Or maybe the funds came from selling an asset such as a boat or motorcycle. If so, make sure your lender is expecting the sale because it affects the asset column of your financial statement. And don’t do it in cash. Create a paper trail with copies of certified checks, a bill of sale, and a copy of the title transfer. This includes all significant fund transfers including from your business account, the sale of other real estate, financial gifts (with notarized gift letter), and loans. A good rule of thumb is not taking out ANY new loans for 90 days before closing a real estate purchase. Not from a relative, no new credit cards, not even for a new TV.

Acceptable Sources of Less Seasoned Funds and Paper Trails

For the most part, all funds that have been in your account and available to you for 60 to 90 days will be assumed to have come from a legitimate source and to be your money. However, many people do have acceptable funds appear inside the 60 to 90 day window that don’t need to be seasoned. These typically include:

Regular payroll deductions going into your savings account. The last few deposits don't need seasoning when the lender can see a long pattern of regular deposits.

Retirement funds when you can show these came from an account in your name. Often you don't want to season these funds because IRS rules allow first time buyers to use these funds, penalty free, when the funds are used to purchase a home within 120 days of making the withdrawal.

Gifted funds when you can show a proper paper trail. It's not your paper trail the lender wants to see. It's the paper trail for the account the gifted funds came from. The lender wants to be sure that the gifter didn't take out a loan in your behalf that they are expecting you to repay. The lender wants to see the funds were seasoned in the gifter's account.

You may not like it but your lender is going to dig deep into your finances. Your best approach is providing clearly documented funds and paper trails from the beginning. Not being straightforward from the start causes delays while the lender looks even deeper into your down payment and closing funds.

What you need to do now is TAKE ACTION!

By Wendy Patton