What is a shared equity agreement?

Most homeowners wouldn’t mind being able to tap their homes for cash from time to time. Home equity loans and lines of credit are common ways to do so. But if those don’t work for you, another option exists: the shared equity agreement.

Also known as a home equity sharing agreement or a shared equity finance agreement, it’s an arrangement between multiple parties, typically a homeowner and a professional investor (in fact, “home equity investing” is yet another term for the process). A company provides you with a lump-sum loan in exchange for partial ownership of your home, and/or a share of its future appreciation. You don’t make monthly repayments of principal or interest; instead, you settle up when you sell the home or at the end of a multi-year agreement period.

Home equity sharing agreements are generally best for people whose poor credit or temporary financial difficulties could make it difficult to qualify for a traditional loan. Here’s how they work, the benefits and drawbacks, and who they are right for.

How does a home equity sharing agreement work?

If you’re considering a shared equity agreement, here’s how the process generally goes. In some ways, it’s not that different from applying for a home equity loan or any sort of  home-secured financing.

1. Select a company: It’s possible to enter into a home equity sharing agreement with an individual investor. But home equity investment or sharing companies are becoming increasingly common presences on the lending landscape. It’s wise to compare different companies before choosing which is right for you. Look into fees, repayment terms, and how their equity sharing models are structured.
2. Prequalify for a loan: Once you’ve chosen a company, you can typically prequalify for a loan to determine how much you might be able to borrow. Getting this insight can be helpful if you have a predetermined amount that you need.
3. Apply for a loan: If all looks good with the prequalification, you’ll submit a formal loan application. Be prepared to provide personal and financial information, verify your identity, and schedule a home appraisal.
4. Get funding: The approval time frame for home equity sharing agreements is often fairly short. For instance, you may get approved and funded in a matter of a few days.
5. Repay the loan: While you won’t be required to make monthly payments, you will need to repay your initial loan, plus any additional agreed-upon percentage of appreciation, at the end of your agreement’s term — generally 10 to 30 years. Or, of course, if you sell your home.

What are the different types of shared equity agreements?

There are two common types of shared equity agreements. In both cases, you receive a lump sum from your investor/lender. It’s how they get compensated in return that differs.

Share of appreciation model

With this model, you’re obligated to repay the home equity sharing company your initial loan amount, plus a predetermined percentage of your home’s future appreciation, if any.

Share of home value model

With this model, instead of repaying the original lump sum you receive, you just pay a percentage of the home’s value at sale time. So if your home declines in value, the percentage you’ll pay to the investor will decrease; you could even pay back less than your original loan.

Of course, the investors are well-aware of the risk of pegging returns to future appreciation. Often, they lowball or “risk-adjust” your home’s appraisal value to compensate, so it’ll always seem like the home appreciated to some degree.

What are the pros and cons of home equity sharing agreements?

Pros

• Flexible qualifications: Certain home equity sharing companies have lower credit score requirements than many home equity loan/HELOC lenders. Thus, it may be easier to get a loan if you have fair or poor credit (scoring in the 500s). Nor are the income requirements as stringent.
• No monthly payments: You won’t need to make monthly payments like you would with a traditional mortgage.
• No interest: Besides not making monthly payments, you also won’t incur loan interest, since technically you’re receiving an investment in your property, not a loan against it.
• Flexible funding: You can use the funds you receive to pay for anything you like, from home improvements to debt consolidation.

Cons

• You’ll need to repay a large amount: Equity sharing agreements often have repayment terms ranging from 10 to 30 years — at the end of which, the whole debt comes due. With the share of appreciation model, for example, “The homeowner will have to make a large balloon payment at the end of the agreement term, representing both repayment of the advanced funds and the equity provider’s share of the appreciation in the home’s value,” says Peter Idziak, senior associate at Texas-based law firm Polunsky Beitel Green, which services residential mortgage lenders. “Most homeowners will likely not have the ability to make this payment without selling their home or borrowing from another source.”
• Limited availability: Unlike traditional lenders, of which there are many, your options for home equity sharing are more limited. Available companies often have a smaller lending footprint and may not offer loans in your state.
• Limited funds: With traditional home equity loans and HELOCs, you can often tap as much as 80 percent of your ownership stake. With many shared equity companies, the loan limit is closer to one-third of your equity. If you’ve been in your home a short time and don’t have much equity built up, you might not be able to borrow much at all.
• Reduces your profit in home sale: If your home’s value increases significantly and you decide to sell, an equity sharing agreement could reduce your total profit from the home sale. Likewise, if your home’s value declines significantly, it could be more difficult to repay the initial loan you received from the home equity sharing company.

Where do you get a home equity sharing agreement?

Home equity sharing companies are becoming more popular and widespread. Among the more well-established are Hometap, Unison, Unlock and Point.

As a home equity sharing agreement could be a costly endeavor in the future, it’s wise to compare different companies’ reputations, repayment terms, and the percentages of your home’s appreciation or value they’ll receive. Also look at their up-front fees (many charge you origination fees and home appraisal fees) and risk-adjusted amounts of appraised value.

When does a home equity sharing agreement make sense?

Home equity sharing agreements aren’t right for everyone. But they can make sense in certain cases, especially for those who are house-poor (possessing a valuable property, but lacking liquid assets). Or, for homeowners who have a decent amount of home equity, but whose credit history, existing debt load or lack of income are barriers to qualifying for traditional home-secured loans, an equity sharing agreement may be worth considering. It may also be an option if you have an unsteady income or a fixed income and can’t afford additional monthly obligations.

However, individuals with good or excellent credit, manageable debt and a stable income may find that a home equity loan, HELOC or even a personal loan is likely a better option.

Always weigh the pros and cons before determining if a home equity sharing agreement is right for your situation. In some cases, these agreements have larger costs than benefits, so it may be a wiser decision to focus on improving your financial profile and seeking out more traditional ways of tapping your home equity.