As mortgage rates rise and fears of a faltering economy take hold, more homeowners are looking for ways to weather a potential financial storm.
For many, this means taking advantage of the home equity they’ve gained over the past few years. U.S. homeowners have an average of $274,000 in home equity, according to a recent report from property data provider CoreLogic. As of the first quarter of 2023, the Federal Reserve estimates that American homeowners are sitting on more than $28.6 trillion of untapped equity.
When higher mortgage rates make refinancing less attractive, products like home equity loans and lines of credit, which use equity but also add debt, become more common. If you're cash-poor but equity-rich, adding debt isn’t always ideal. Co-investing or equity-sharing programs may be a viable alternative.
What is a shared equity agreement?
Home equity sharing allows an investment company to buy a slice of your home for a lump sum payment plus a share of the future change in your home equity. These agreements work very much like a company selling stock to investors, according to Thomas Sponholtz, CEO of home co-investing company Unison.
The investor buys an amount of stock (home equity in this case) in the hopes that the value of the stock will increase over time. When it comes time to sell, the investor recovers their original investment plus any gains in the value of the stock. If the stock loses value, the investor loses as well.
Having the option of using equity in a different way and turning it into liquidity without incurring new debt “broadens the flexibility of choice the homeowner has,” Sponholtz says.
A big part of the attraction of co-investing is that you won’t have to make monthly payments or pay interest on the amount you receive. Instead, you’re delaying the repayment until the end of the equity sharing agreement’s term or when you sell your home, whichever takes place first. Think of an equity sharing agreement as a type of balloon payment loan.
How home equity sharing programs work
How much money you can obtain from a co-investing company will depend on your home’s value and how much future equity you’re willing to sell. Different investing companies will have minimum and maximum amounts they are willing to invest that can range between $15,000 and $600,000 or more.
The first step in the process is getting a home appraisal. Once the appraisal is in, each company will do a risk adjustment to that value — basically, a downward adjustment to offset the risk of a future loss of equity. This adjustment can range from a low of 2.75% up to 20% of the appraisal, depending on the company. This adjusted value, not the full appraisal value, determines the amount you receive and will play a part in how much you’ll have to repay.
The money can be used to pay down credit card debt, medical expenses, home repairs or any other use. Shmuel Shayowitz, president and chief lending officer at mortgage bank Approved Funding, cautions against misusing the funds for non-essential purposes.
The danger is in relying on the fact that you don’t have to immediately repay the investor. A homeowner may think, “I’m building equity and when I go to sell I’ll have all these funds,” Shayowitz says. They may not fully understand that they’re giving up a portion of that future equity.
Comparing the best home equity sharing companies
After you’ve decided to pursue a home equity sharing plan, the next step is finding the right company. Although there are several of these companies to choose from and each one has its own specific eligibility and credit score requirements, maximum loan amounts, repayment terms, risk-adjustment percentages, fees and state availability.
Consider all of these factors when selecting the best option for your unique situation. In addition, make sure to read reviews and do your due diligence when selecting a home equity sharing company. This includes checking the company’s rating with the Better Business Bureau and even reaching out to past customers for feedback. Finally, be sure to read all of the fine print associated with the agreement to make sure you understand all of the terms, conditions and potential costs.
Applying for a home equity sharing agreement
Once you’ve selected the right home equity sharing company, it’s time to apply for an agreement. The application process will vary from company to company, but generally, you will first need to enter your address to prequalify. This ensures that the company provides services in your state and that your home meets any minimum requirements. If you pass prequalification, you’ll provide basic information such as your credit score, income and current loan balances. This information helps the company determine your eligibility for the program.
Getting an appraisal to determine your home’s value
Next, you'll need to get an appraisal of your home to determine its value against how much equity you have in your home. The company you are working with will help schedule this appraisal from a trusted third-party appraiser. The applicant typically pays for the cost of the appraisal. Upon completion of the appraisal, the company will use this information to determine your home’s equity and set the terms for the home equity sharing agreement.
Qualifying for a shared equity agreement and receiving a cash advance
As previously mentioned, the specific requirements and qualifications for a home equity sharing agreement will vary from company to company. Most companies will require a credit score of at least 500, although some may require a higher score of just above 600. The max loan-to-value (LTV) ratio for the shared equity agreement is typically between 70% and 85%. This means you need to have at least 15% to 30% equity in your home before you can qualify.
Once approved for a shared equity agreement, you will receive a lump sum cash advance from the company in exchange for a portion of your home’s future appreciation. The amount that you receive will depend on your home’s value, your credit score, your LTV ratio and the terms of the agreement. The maximum loan amounts are typically between $500,000 and $600,000.
Repayment of an equity sharing investment
Instead of monthly payments, you must make a lump sum payment of the original amount from the investment company plus a percentage of any equity gained. Repayment is due when one of the following occurs:
- The term of the equity sharing contract comes to an end. Most contracts have 10-year terms, but some lenders offer 30-year terms
- You sell the home prior to the end of the agreement
- You decide to buy out the investor. Some companies will allow you to buy back your share of equity before the end of the agreement without having to sell your home
Remember that you’ll have to make a lump sum payment of whatever the investment company paid plus a percentage of any increase in appreciation in your home, which can add up to quite a large sum.
An example of a home equity sharing investment
Say your home is appraised 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 would work 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 depreciated 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).
The pros of home equity sharing
- There are no monthly payments, interest or restrictions on how the money is used
- The investment company shares in the gain as well as any loss of equity in the home
- Equity sharing agreements are easier to qualify for than traditional mortgage and equity loan products
- Some companies accept credit scores as low as 500
- The investment company won’t share in any home improvements you make that increase the value of your home. You will get full credit
The cons of home equity sharing
- Because of the risk adjustment to the value of your home, you’ll start off owing more money than you receive
- Some companies have time restrictions on when you can sell your home or make improvements
- Some companies may not allow you to buy them out early
- If you can’t pay as agreed, you’ll need to sell your home to repay the investment
- If you let your home fall into disrepair or you do anything to reduce the value of your home, the investment company won’t share in the loss of equity
- Equity sharing agreements are available only in a limited number of states
When does an equity sharing agreement make sense?
Equity sharing programs aren’t for everyone. But under the right circumstances, they could allow you to tap into your home’s equity without increasing your debt load and having to worry about immediate repayments.
Those more likely to benefit from this type of agreement include homeowners who plan on staying in the home long term, those who have high medical (or other high-interest) debt but can’t afford to finance with a traditional loan or homeowners who may not qualify to get a home equity loan or line of credit.
Seniors who have a lot of equity in their homes but are on a fixed income and can’t afford to take on additional debt could also benefit from equity sharing. It can provide the cash for home repairs, shore up a retirement fund or help pay for home care to help them age in place.
Equity sharing agreements should be approached with caution. “You get less cash than the amount of equity you’re giving,” says Melissa Cohn, regional vice president at William Raveis Mortgage.
All the experts we spoke to agree that if you have a steady source of income and can afford the monthly payments, you’re probably better off with a home equity loan, line of credit, personal loan or mortgage refinance. Talk to mortgage lenders and other sources who are knowledgeable about equity-sharing agreements to help you decide which option is best for you.
Summary of Money’s home equity sharing: pros and cons
If you’re looking to tap into your home’s equity and don't meet the stricter qualifications for the best home equity loans or home equity lines of credit, equity sharing may be an attractive option. It can provide cash when other financing falls short and is useful for those who plan on staying in the home for the long term. But it should be approached with caution and weighed against other options like personal loans or refinancing. As with any other type of loan, speaking with a financial advisor or experienced mortgage lender will help you determine the best option for your needs.