Home Equity Sharing: Pros and Cons

One of the primary advantages homeowners have over renters is the ability to build up — and tap into — home equity. This equity can be accessed through several loan products that either disburse a lump sum or provide a line of credit in exchange for a portion of the borrower's future equity.

While most home equity products — including home equity loans and HELOCs — involve monthly payments, home equity sharing agreements don’t.

An equity sharing agreement is an arrangement that allows the homeowner to access their home equity without technically incurring debt. When you engage in home equity sharing, you’re essentially selling a percentage of your home’s future value in exchange for a lump sum of cash.

Home equity sharing agreements are repaid at the end of a set time period or when the borrower eventually sells the house. However, these arrangements are far from risk-free. Let’s take a look at these agreements and their most significant pros and cons.

What is a shared equity agreement?

Equity-sharing agreements are similar to investing in the stock market. The investor buys “stock” in your home in the hope that its future value will increase. When the agreement's term is up or the home is sold, the investor recovers their original investment plus a percentage of any gains in the value of the home. On the other hand, if the property loses value, the investor loses as well, just as you would if selling a stock that’s lost value.

Kenon Chen, executive vice president of strategy and growth at property analytics firm Clear Capital, says that home equity agreements have grown in popularity in recent years because they allow homeowners to access their equity without taking out a loan.

"They can be a really good option for folks that maybe are not ready to be approved for a traditional [home equity] product," Chen says.

The pros of home equity sharing

No monthly payments

The most enticing upside to signing a home equity sharing agreement is that you won't need to worry about the product’s debt cutting into your monthly budget anytime soon. Unlike traditional home equity loans or lines of credit, you won’t need to pay back the money owed in monthly installments, but rather 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 the time being.

No upfront payments required

Equity sharing agreements typically carry 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 the funds they pay out. The amount you receive will be lower if you choose this route, but you won't need a large upfront cash payment to complete the transaction.

Loan amounts can be large, and you can use the money for any purpose

How much money you can obtain from an equity sharing company will depend on your home’s value and how much future equity you’re willing to sell. Companies have varying minimum and maximum investment amounts, ranging from $15,000 to $600,000 or more. Additionally, there are no limits on how you can use the money.

The investment company shares in the gain, as well as the loss, of equity in your home

Technically, you could repay less than you initially borrowed if your house drastically falls in value beyond the investment company's initial risk assessment. In this scenario, you would gain more value out of your home equity than you would eventually have to pay back. However, the fact that the company can, to some extent, control the changes you make to your home, and that home values have been rising steadily, makes this outcome unlikely.

You don't need great credit

With traditional equity products like home equity loans, your credit score plays a big role. On home-equity sharing agreements, the investor is primarily looking at the value of the asset (your home) — not your financial attributes. In fact, with some companies, you can have a credit score as low as 500 and still qualify. Others have no income requirements, either.

Payoff times can be lengthy

Many home equity sharing companies offer agreements as long as 30 years, so you have time to use the funds as needed, and repayment isn’t due for many years down the road.

The cons of home equity sharing

You could owe much more than you received

In a home equity sharing agreement, the company you are in business with will start by getting an appraisal to determine your home’s value and how much equity you currently own. Once the assessment is in, the company will perform a risk adjustment to that value — essentially a downward adjustment to offset the risk of future equity losses. This adjustment can range from 5% to 27% of the appraisal, depending on the company. This adjusted value, not the full appraisal value, determines the amount you'll receive upfront and will play a part in how much you’ll have to repay.

There may be restrictions on when you can sell your home, make improvements or buy back the agreement

Because you are entering a legal agreement with a company over the future value of your home, your agreement may include limitations on what alterations you can make to the property that could potentially devalue it. Some companies can also limit your ability to opt out of the agreement before the term ends or charge you penalties if you sell your home prematurely.

You may need to sell your home to repay the investment

At the end of the agreed-upon contract period, you will need to make a lump sum payment of the amount you borrowed plus a percentage of any equity gained. You may be able to pay this sum before the end of the agreement term if you decide to buy out the contract or sell your home. For most homeowners, however, reaching the end of the contract will mean selling their home, refinancing or finding another source of funding to repay the investment.

How does a home equity sharing agreement work?

How much money you can obtain from an equity sharing agreement depends on your home's appraised value, the risk assessment and the percentage of equity the investor buys.

For example, say your home appraises at $500,000. The company you choose as a co-investor makes a risk adjustment of 10%, bringing your home’s value down to $450,000. If you decide to sell 10% of your home’s future equity in exchange for a $50,000 payment, the math works out as follows:

Original adjusted home value: $450,000

Value at time of repayment: $600,000

Total appreciation: $150,000

You would have to repay $65,000 (the original $50,000 plus 10% of the total appreciation = $15,000).

On the other hand, if your home's value decreases by $100,000 at the time of repayment, you would owe less money:

Original adjusted home value: $450,000

Value at time of repayment: $350,000

Total depreciation: $100,000

You would owe $40,000 (the original $50,000 minus 10% of the total depreciation = $10,000).

Summary of Money’s home equity sharing: pros and cons

Home equity sharing is an option for homeowners who may not want to take on new debt, can’t meet the standards of a traditional home equity loan or are looking to borrow money without making monthly payments. However, there are risks: you will need to repay the borrowed amount plus a percentage of the value gained at the end of the contract period. Weigh your options and speak with a financial advisor before deciding if a home equity sharing agreement is right for you.