In the midst of a widespread pandemic, could having access to future home equity help those who are trying to stay afloat through the crisis? Here’s what to know about shared equity.
The coronavirus crisis has put millions of homeowners out of work. Those homeowners with equity in their homes, but not a lot of cash in their bank accounts, would love to find a way to access some of that value without trying to refinance or sell their homes in the current real estate market. Small business owners who are shut down by the virus are desperate for cash to stay afloat. Would accessing $30,000 or so of the future home equity in their homes help them weather this crisis?
Equity is the difference between a home’s appraised value and the balance remaining of the principal on any owner’s mortgage.
Home equity is higher today than it has been in decades. By the end of the third quarter last year, American homeowners with mortgages had $5.8 trillion in total tappable equity. In just one year, the average homeowner with a mortgage gained an average of $4,900 in home equity.
A new breed of finance companies are trying to convince homeowners that selling a slice of their future equity is a much better idea than taking out a loan. Simultaneously, they are creating a new opportunity for institutional investors to own a piece of America’s housing boom.
Forty Years of Shared Equity
There’s nothing particularly new about selling future equity to provide down payments for homeowners who have been unable to save for a down payment. Since the 1980s, “limited equity housing” and “shared appreciation mortgages” have been used by nonprofits and municipal housing agencies to turn lower-income, credit-challenged families into homeowners and to breathe new life into decaying communities.
Because shared equity replenishes nonprofit and municipal coffers at no cost to taxpayers or donors, the shared equity model has flourished. It has fueled the growth of community land trusts– local nonprofits that tap rising real estate values to create affordable housing opportunities for low– or moderate-income households. Today at least 33 state and local housing agencies and nonprofits use shared appreciation mortgages to fund down payments that turn thousands of cash-strapped and credit-challenged families into homeowners.
How Shared Equity Works
Shared equity is attracting start-ups with venture capital backing who are betting that the time has come for a new way for homeowners to turn some of their home equity into cash. Shared equity pioneers are gaining footholds in Silicon Valley and the San Francisco Bay region and other markets like Denver and Seattle, where home values are highest and have driven homeowners’ equity to record levels.
Shared equity investments have a term of 10 or 30 years. Owners are charged a transaction fee that is 2.5% to 4% of the investment, and owners pay closing costs, which are usually subtracted from the investment.
Are Homeowners Ready for Shared Equity? What to Know
- What do you need to do to apply for shared equity? Owners need a decent credit score and the most own 25% or more of the equity in their homes. Different equity buyers have different terms and fees. Read the fine print.
- With a shared equity investment, first-time buyers can avoid mortgage insurance and higher interest rates. It takes the average renter 6.5 years to save for a 20% down payment, which is one reason that at least 19 million mortgage-ready millennials who would rather be homeowners are still renting. Many lower down payment options are available. Still, they require mortgage insurance and carry higher mortgage rates. The Joint Center for Housing Studies released a report last year on the advantages of shared equity over down payment assistance and found that at least 6.6 million potential homeowners that could achieve homeownership with the help of shared equity programs that provide between $25,000 and $100,000 for down payments.
- Shared equity investments are easier to get than a loan and incur no monthly payments. Credit and debt standards for shared equity investments are generally less restrictive than those for a low down payment loan. Owners also make no payments at all before it is time to repay the investment plus accrued equity.
- What’s the prospect for future home equity? The crisis will temporarily lower home prices and home values, according to some forecasters. However, America’s real estate markets are fundamentally healthy. Consumer confidence in home appreciation is higher now than it has been in more than a decade. Last month marked the 95th straight month that home prices have increased. Most markets have regained lost equity. New laws like the Dodd-Frank Act and higher lending standards protect consumers from a repeat of another housing crash like the one in 2007. Homeowners who sign up for shared equity deals have no guarantee that their equity will grow. When you have to sell, or you reach the end of the term for your investment, and your equity has declined, shared equity investors will share in the loss.
- Is equity sharing ready for today’s cash-strapped homeowners? Real estate equity sharing is its infancy. All but one of two home equity sharing companies are start-ups. The market for their investors very new. Not many homeowners have sold and repurchased their equity after many years have passed.
Should the crisis ignite a boom in homeowners seeking to sell some of their equity, the companies currently in the business may become quickly overwhelmed. On the other hand, the coronavirus crisis may be an opportunity for shared equity to prove itself.
Steve Cook is the editor of the Down Payment Report and provides public relations consulting services to leading companies and non-profits in residential real estate and housing finance. He has been vice president of public affairs for the National Association of Realtors, senior vice president of Edelman Worldwide and press secretary to two members of Congress.