Loans Real Estate

Sharing is Caring? All About Shared Equity Agreements

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Over the course of their mortgage term, most borrowers will be earning equity in their home. While having more equity means owning more of your home outright, there may come a time when you need to access those funds. One of the ways that you can do that is with a Shared Equity Agreement.

A Shared Equity Agreement, also known as a Home Equity Investment (or HEI), is an agreement in which you offer a percentage of your house’s equity in return for a lump sum of cash. While this does put a lien on your house, it’s not considered a loan as you’re not required to make monthly payments and you won’t be charged interest. It can be a great option for those who want to avoid a Home Equity Loan. Is a Shared Equity Agreement right for you? Keep reading to learn more!

How It Works

Shared Equity Agreements work by offering equity in exchange for cash. Investment companies who offer Shared Equity Agreements will ask for a portion of your equity and pay you a lump sum in return. This lump sum could be for as much as $500,000, depending on the company, your property, and the amount of equity the company is purchasing. It’s important to note that investment companies typically factor a valuation adjustment into the value of your home for risk purposes – this can be anywhere from 10% to 20% of the property value. The company will also require a servicing fee, which is typically 3% to 5% of the investment amount and is deducted from the lump sum.

After you receive your funds, the cash is yours to do with what you will! It can be used to pay down debt (even paying down your mortgage), remodel or renovate your home, tuition expenses, for travel, and more! Whatever you desire to use it for.

However, Shared Equity Agreements do have a term period, after which you will need to pay back the amount owed to the company based on the amount of equity that they purchased as well as your home’s value. This term usually is 10 years or 30 years long. Because a Shared Equity Agreement is an investment for the company, they will share in the benefit if your home increases in value, or the loss if your house depreciates. That means if your home’s value rises, you will pay more than what you initially received, but if it loses value, you will pay less. Appreciation values can be capped, ensuring that you don’t end up paying more than a certain amount. Shared Equity Agreements are typically paid either by refinancing on your home, selling your property, or getting the funds some other way.

Let’s Look at an Example

If your home increases in value:

  • Initial Property Value: $500,000
  • Valuation Adjustment: 10%
  • Adjusted Property Value: $450,000
  • Property Value After 30 Year Term: $765,000
  • Equity Being Shared: 10%
  • Lump Sum Paid: $50,000
  • Total Amount Owed: $81,500

If your home decreases in value:

  • Initial Property Value: $500,000
  • Valuation Adjustment: 10%
  • Adjusted Property Value: $450,000
  • Property Value After 30 Year Term: $350,000
  • Equity Being Shared: 10%
  • Lump Sum Paid: $50,000
  • Total Amount Owed: $40,000

In the above, you can see two different scenarios. In one, your house increases in value, and you end up owing more than the amount you were initially paid. In the other, your house decreases in value, and you end up owing less. This is because the investor shares in your equity, and therefore, takes a cut of any appreciation or depreciation that your home value experiences.

The total amount owed depends on the adjusted property value, the property value after the term, and the equity shared. For the first scenario, the adjusted property value ($450,000) is subtracted from the value after 30 years ($765,000), for a total of $315,000. This is the amount that your house increased in value, and because the investor shares 10% of that, they will receive $31,500. Add that to the lump sum that they originally paid ($50,000), and you get a total of $81,500 paid to the investor.

In the second scenario, the adjusted property value is the same ($450,000), but the value after 30 years has gone down ($350,000). This is subtracted from the adjusted value, for a total of $100,000. Ten percent of this is $10,000, and because the value has gone down, this is subtracted from the lump sum paid ($50,000), meaning that you only owe $40,000. The investor shares in the loss of your home’s value.

How Does It Compare to a Home Equity Loan?

When it comes to financing, it’s always good to have options, and it’s important to choose which makes the most sense for you. With that said, lets look at some of the differences between a Home Equity Loan and a Shared Equity Agreement.

Shared Equity Agreement Home Equity Loan
No monthly payments or interest. Monthly payments required, and you’ll earn interest on the amount that you borrow.
Share risk of depreciation with investors, but also could lose out on gains if values go up. Any equity you earn as you pay off your loan will be 100% yours.
May be easier to qualify if you have low credit or an unusual situation (such as self-employment). More traditional qualifications and requirements.
Can end up with a Balloon Payment after the term is over. Amortizing monthly payments mean you pay off your balance a little each month, meaning you won’t have a large balloon payment.
Equity can be undervalued at the onset, meaning you might not benefit from the full value of your house’s equity. Funds will be provided based on your house’s current value and your own equity, without an adjustment.
Lump sum payment may not be as large as with a Home Equity Loan. Can usually access larger funds, as well as a line of credit.

A Shared Equity Agreement isn’t a loan, but is an investment by a company with them paying funds in exchange for a portion of your equity (which you will later buy back when you repay them). On the other hand, a Home Equity Loan consists of a lender loaning funds to you while using your current home and equity as collateral. Both have advantages and disadvantages, and it’s important to research your finances thoroughly before making a decision.

If you think a Shared Equity Agreement or a Home Equity Loan might be right for you, you can keep on reading about investment companies and lenders right here on RateZip!

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