One of the main advantages that homeowners have over renters is the ability to build – and tap into – home equity. This balance can be achieved with several loan products that offer a lump sum or credit line in exchange for a portion of the borrower’s future income.
While many home equity products – including home equity loans and HELOCs – involve monthly payments, home equity agreements do not.
An equity share agreement is an arrangement that allows a homeowner to access their home equity without technically incurring debt. When you participate in home equity sharing, you are essentially selling a percentage of the future value of your home for a lump sum.
Home equity agreements are paid off at the end of a fixed term or when the borrower eventually sells the house. However, these arrangements are not without risk. Let’s take a look at these agreements and their most important advantages and disadvantages.
What is a joint equity agreement?
Equity share deals are similar to investing in the stock market. An investor buys “stock” in your home with the hope that its future value will increase. When the lease term is up or the home is sold, the investor gets back their initial investment plus a percentage of any profit on the home’s value. On the other hand, if the asset loses value, the investor also loses, just as you would if you sold a stock that lost value.
Kenon Chen, senior vice president of strategy and growth at real estate analytics firm Clear Capital, says home equity deals have grown in popularity in recent years because they allow homeowners to access their equity without taking out a loan.
“It can be a great option for people who may not be ready to be traditionally certified [home equity] product,” Chen said.
The beauty of sharing home equity
There are no monthly payments
The main attraction of signing a home equity deal is that you won’t have to worry about the product debt being deducted from your monthly budget anytime soon. Unlike mortgages or lines of credit, you won’t need to pay the amount you owe in monthly installments, but as a lump sum at the end of the agreement. This allows you to keep cash flow free and avoid financial stress – at least for now.
No upfront payments are required
Equity agreements often have fees similar to those of home equity loans and lines of credit, including closing costs and origination fees. However, many home equity sharing companies allow these costs to be deducted from their fees. The amount you get will be lower if you choose this route, but you won’t need a large upfront payment to complete the transaction.
Loan amounts can be large, and you can use the money for any purpose
How much money you can get from an equity share company will depend on the value of your home and how much future cash you are willing to sell. Companies have various minimum and maximum investment amounts, ranging from $15,000 to $600,000 or more. Additionally, there are no restrictions on how you can spend the money.
The investment company shares in the gains, and losses, of the equity in your home
Technically, you can pay less than what you originally borrowed if your home falls in value more than the investment company’s risk assessment. In this case, you will get more value for your home equity than you would have to pay in the end. However, the fact that the company can, to some extent, control the changes you make to your home, and that home prices have been slowly rising, makes this outcome unlikely.
You don’t need great credit
With traditional equity products like home loans, your credit score plays a big role. In home equity deals, the investor looks primarily at the value of the asset (your home) — not your financial attributes. In fact, with some companies, you can have a credit score of up to 500 and still qualify. Some have no income requirements, either.
Payment times can be long
Most home equity sharing companies offer agreements for 30 years, so you have time to use the funds as needed, and repayments don’t have to be many years down the road.
Disadvantages of sharing home equity
You may owe more than you accept
In a home equity deal, the company in the business will also start by getting an appraisal to determine the value of your home and how much equity you currently have. Once the assessment is in, the company will make a risk adjustment to that amount – basically a lower adjustment to reduce the risk of future equity losses. This adjustment can range from 5% to 27% of the appraisal, depending on the company. This adjusted amount, not the full appraisal value, determines the amount you will receive up front and will play a part in how much you will have to pay.
There may be restrictions on when you can sell your home, make improvements or refinance
Because you are making a legal agreement with a company about the future value of your home, your agreement may include restrictions on what changes you can make to the property that may reduce its value. Some companies may limit your ability to get out of the contract before the end of the term or charge you penalties if you sell your home early.
You may need to sell your home to recoup your investment
At the end of the agreed contract period, you will need to make a total payment of the loan amount and a percentage of any equity earned. You can pay this amount before the end of the contract if you decide to buy the contract or sell your home. However, for many homeowners, reaching the end of the contract will mean selling their home, refinancing or finding another source of income to recoup the investment.
How does a home equity agreement work?
How much money you can get from an equity sharing agreement depends on the appraised value of your home, the risk assessment and the percentage of the investor’s purchase price.
For example, say your home is valued at $500,000. The company you choose as a co-investor makes a 10% risk adjustment, reducing the value of your home to $450,000. If you decide to sell 10% of your future home equity for a $50,000 down payment, the math works like this:
Actual adjusted home value: $450,000
Amount at time of settlement: $600,000
Total price: $150,000
You will have to pay back $65,000 ($50,000 original plus 10% of the valuation = $15,000).
On the other hand, if the value of your home drops by $100,000 during the repayment period, you will owe less:
Actual adjusted home value: $450,000
Amount at time of payment: $350,000
Total depreciation: $100,000
You will owe $40,000 ($50,000 original minus 10% of total depreciation = $10,000).
Home equity sharing FAQ
Is sharing equally a good idea?
Home equity deals can be a good idea if you have a lot of home equity and need to borrow cash without taking on another monthly payment. Be aware that if your home goes up in value during the term of the loan, you may end up paying more than you borrowed.
What is the difference between a home equity agreement?
The downside to a home equity deal is that the real estate investor can end up taking a large portion of your home’s appreciation if it increases in value by the time your deal ends. They may also come with restrictions on how you can improve your home or when you can sell it.
How does home equity work?
Home equity sharing is when you sell part of your home equity to an investor for a lump sum payment and part of the future value of your home. They are offered by various investment companies, including Unlock, Hometap, Unison and more.
Who is the best home equity lender?
The best home equity sharing company depends a lot on where you are, as most companies only operate in a few states. Your credit score, how much equity you have, how much you’re looking to borrow, and other factors should influence which home investor you choose.
An overview of Mali’s home equity sharing: pros and cons
Home equity sharing is an option for homeowners who may not want to take out a new loan, who cannot meet the standards of a traditional home loan or who want to borrow money without making monthly payments. However, there are risks: you will need to repay the loan amount and a percentage of the amount earned at the end of the contract period. Weigh your options and talk to a financial advisor before deciding whether a home equity deal is right for you.
