Shared Equity Loans: What they are and how they work?

What is shared equity?

A shared equity loan is a broad category of strategies for extracting the value locked up in a person’s equity in their home. They are not loans is a technical sense. Instead, there are a group of different ways of getting money from the equity in your home. They all have one primary thing in common: they give money to the homeowner for a share of the future appreciation or value of the home when it is sold. 

Some of these strategies go by the name of shared equity investment, home equity investments (HEI), home equity agreement (HEA), equity sharing agreement (ESA), shared appreciation mortgage (SAM), and shared appreciation program. Many of these concepts have slight variations or are only called different things by companies. In every one of these cases the primary tactic is to trade money now for a share in the equity of real estate property at the time of its sale.

What is a shared equity loan?

A shared equity loan is a financial instrument where a company will give a homeowner money in exchange for a percentage of either the sale of the home or the appreciation in the home when it is sold. Some companies don’t call it a “loan” but use words like “agreement” or “investment.” This is because in many ways the arrangement doesn’t look anything like what we would normally call a loan. These agreements do not have monthly payments, a traditional APR (or interest rate), and no fixed term.

What is the APR on a shared equity loan?

It would be impossible to predict what the APR of a shared equity loan (or a shared equity investment, or shared equity agreement) would be until the completion of the arrangement. In many ways, it is not appropriate to call it a loan at all. That would be like saying that buying a stock is a way of “lending” someone money in exchange for partial ownership in a company. You would not know what owning that share in the company was worth until you sold it. You could sell it in three years, five years, or thirty years. 

Annual percentage rates (APR) can only be calculated when you know the length of a loan, the amount borrowed, and the cost of borrowing. In the case of shared equity loans, the only known value is the amount borrowed. And “borrowed” isn’t the right word for it, either. A homeowner is selling a share of their future equity in their home for a predetermined amount. 

What is a shared equity agreement?

A shared equity agreement is when a homeowner sells a stake in the equity of their home for an investment. The homeowner gets the money immediately and the investor must wait for the homeowner to buy out the agreement or sell the home to share in the equity of the house. The agreement always specifies that the payback will include the initial principal. Additionally, it includes a percentage of either the total sale of the home or the appreciation of the home since they entered into the agreement. 

How does a shared equity agreement work?

Shared equity agreements can be very confusing. They are not like a mortgage or home equity line of credit, where money now is traded for monthly payments of principal and interest. But that’s not how shared equity works. Shared equity is more like selling shares in a company. You exchange now for whatever value that company holds in the future. When we think of it more like investment it starts to make a little bit more sense. 

A homeowner sells a portion of their future equity of their home to a shared equity company. That company gives them a lump sum of money that the homeowner can do whatever they want with it. When the homeowner repurchases the agreement or when the home is sold the shared equity company receives the lump sum amount that they gave the homeowner plus a percentage of the sale of the home. 

Shared equity companies have different ways of calculating what share they get at the time a home is sold. Some shared equity companies take a percentage of the total sale regardless of how much the home is sold for. Other shared equity companies take only a percentage of the appreciated value of the home which means that if the home actually depreciated they would lose money. 

There are other variations within these basic principles. For instance, a shared equity company may have a cap on how much it will take if the home appreciates dramatically. The company might be able to make adjustments to the value of the home if they feel the homeowner did not adequately take care of the property. All of this would be delineated in the shared equity agreement at the beginning.

Some of the general principles around shared equity include the following:

Monthly payments

Shared equity agreements do not have monthly payments. The shared equity company receives its money when the home is sold. 

Credit checks

Applications for share equity agreements almost never have traditional underwriting. While they may check your credit, they are more concerned about whether your home currently has enough equity to qualify.

Home equity requirement

In order to obtain a shared agreement, a home must meet the company’s standard for the amount of equity in the home. This could be anywhere between 25 and 50%. Having 25% equity in your home means that mortgages on the home don’t exceed 75% of the home’s current appraised value. 

Example of evaluating a home’s equity: A home was appraised for $300,000, but the current balance on the home’s mortgage is for $180,000. Hence they have $120,000 in equity ($300,000 – $180,000), which means that the home has 40% equity ($120,000 ÷ $300,000 = 40%). 

Investment range

The homeowner decides at the beginning of the shared equity agreement how much of the equity they want to pull out of their home. Each company has a different range of approved amounts. For instance, one company will only let you take out between 5-17.5% of the equity. Others will allow you to pull up to 50% out. 

Term or length of the contract

Unlike a traditional loan where it is clear when the loan is paid off, shared equity agreements have no natural limit. They extend until a change in the home’s ownership. This change can be a sale or the homeowner buying out the contract. This can happen in a couple of years or in twenty years. This uncertainty can make it very difficult for a homeowner to know how to evaluate whether they want to engage in a shared equity agreement. 

Share of the home’s future value

In a shared equity agreement, the company makes money when the home sells. They decide on a certain percent they’ll get from the sale, usually based on how much money was taken out and how much the home’s value increased. Companies pick this percent using either the total sale value or how much the home went up in value (the appreciation).

Total sale value

The shared equity agreement that calculated their payout based on the total value of the sale of the home often offers higher equity pay-outs early in the loan. Total sale value agreements are like selling a percentage of your home to the company.

Appreciation

Other shared equity companies will assess their share of a home sale only on the appreciated value of the home. These companies typically offer lower equity amounts.

Appreciation example: At the time of the shared equity agreement, the home was appraised at $200,000. Five years later, the homeowner sold the home for $250,000. The appreciation was $50,000.

Cash-out amount

The cash-out amount is the equity a homeowner can take out of their home in a shared equity agreement. It depends on the company’s rules and the home’s current equity.

State availability

Shared equity companies currently do not operate in every state.

Unison currently offers shared equity agreements in the following states: Arizona, California, Colorado, Delaware, Florida, Illinois, Indiana, Kansas, Kentucky, Massachusetts, Michigan, Minnesota, Missouri, Nevada, New Jersey, New Mexico, New York, North Carolina, Ohio, Oregon, Pennsylvania, Rhode Island, South Carolina, Tennessee, Utah, Virginia, Washington, Wisconsin, and Washington, D.C.

Point currently offers shared equity agreements in the following states: Arizona, California, Colorado, Florida, Illinois, Maryland, Massachusetts, Michigan, Minnesota, Nevada, New Jersey, New York, North Carolina, Ohio, Oregon, Pennsylvania, Virginia, Washington, and Washington, D.C.

Unlock currently offers shared equity agreements in the following states: Arizona, California, Colorado, Florida, Michigan, Minnesota, North Carolina, New Jersey, Nevada, Oregon, South Carolina, Tennessee, Utah, Virginia, and Washington.

Type of dwellings eligible

Hometap currently offers shared equity agreements in the followings states: Massachusetts, Michigan, Minnesota, Nevada, Ohio, South Carolina, and Utah.

How long does it take to get a shared equity loan?

The process normally only takes a couple of weeks to secure a shared equity agreement. Some of the things that could cause delays could be home appraisals or tracking down any other paperwork. 

What are some examples of how shared equity agreements work?

Shared equity agreements don’t look like traditional mortgages or personal loans, so they can be a little confusing about how they work. Sometimes the best way to understand them is to see an example.

Shared equity agreement Example

A homeowner has a home that has been appraised for $307,000 and currently owes $183,000. This means they have 40% equity in the home. The homeowner would like to take $31,000 in equity with the shared equity agreement. The homeowner sells the home for $356,000 five years later. Therefore the home has appreciated an average of 3% per year.

You can’t technically calculate an APR on a product like this because the time and the return are both uncertain. Things such as appreciation less than 3% or selling house during a recession, could have a dramatic impact the return. However, if you were to calculate the cost of the loan after the fact, it would say that the $31,000 cost somewhere in the neighborhood of 35% APR.

For a mortgage, that seems like an expensive form of credit. For someone with poor credit, that would be a good personal loan. For people who simply can’t absorb another monthly payment and needs to solve a financial problem, it could be what they need. 

Home equity Agreement (HEA) example

A homeowner has a home that has been appraised for $503,000 and currently owes $278,000. This means they have 45% equity in the home. The homeowner would like to take $46,000 in equity with the shared equity agreement. The homeowner sells the home for $583,000 five years later after the home has appreciated an average of 3% per year. This company has slightly different terms and end up earning $128,000 from the sale. 

The company made back their $46,000 and an additional $77,000 on top of that. Of course, in this circumstance, the homeowner took the $46,000 and paid off $40,000 of credit card debt. For five years, they were saving 18% interest on the debt that they would have paid for. Furthermore, they took the money they would have made to those payments and increased their 401k contribution.

What the homeowner did with the money helped to ease the impact of losing that future equity. That made the situation dramatically different than if they had used that money to increase their spending. 

Shared appreciation agreement example

In this example, the company only shares in the appreciation of the home. After six years, the homeowner sells their home, but because the market was depressed, they sold for a price that was only slightly above the appraised value of the home when they entered the shared appreciation agreement. The 

The homeowner ended up getting $410,000 from selling the house that was appraised at $503,000 just five years earlier. We must, of course, consider the $88,000 they received at the time of the agreement. This means that the homeowner ended up with $498,000 of value ($410,000 from the sale + $88,000 cash from the equity sharing agreement). 

Is shared equity agreements a good idea?

Shared equity agreements (also known as shared equity loans or shared equity investment) don’t function like traditional loans. It can be difficult to know what the money is really going to “cost” over time. This is because these arrangements often rely on predicting the future. How long you keep the agreement, how much your home will appreciate (or depreciate), and when you might want to move have a significant impact on what a shared equity agreement will ultimately cost you. 

Of course, this uncertainty doesn’t mean that they are bad financial options. It just means that it will require a little more understanding to make a decision on whether it is the best option for you at the time. 

Shared equity may be the best way for a homeowner with fair or poor credit to get the money they need to take the next step in their financial journey. However, entering a shared equity agreement (especially if the terms are not favorable) could jeopardize your ability to build wealth over time. 

Times when a shared equity agreement could be a good idea

• When your present financial crisis could cause you to lose your home
• When a significant infusion of money now could dramatically change the trajectory of your financial progress
• When you aren’t relying on the equity in your home for retirement
• When the money from a shared equity agreement provides opportunities for wealth creation

Times when a shared equity agreement could be a bad idea

• When you expect the value of your home to play a significant role in your retirement
• When the money gained from the shared equity agreement is for consumption
• When the agreement from the company would force you to give up a disproportionate amount of the value of your home when you sell it
• When the money you get from a shared equity agreement won’t actually fundamentally change your situation

What is the difference between a shared equity loan and a home equity line of credit (HELOC)?

A home equity line of credit and a share equity agreement are only similar in that they are financial instruments that rely on the equity and value in your home. A home equity line of credit (HELOC) is similar to a traditional loan. It has an interest rate, a monthly payment, and is secured by the value of the house. Because it is a line of credit, it doesn’t have a fixed loan length and money can be drawn and paid back repeatedly. As an open line of credit, the interest rate usually floats with the FED fund rate.

In contrast, a shared equity loan is not really alone but is an opportunity for a homeowner to sell the future equity of their home for money today. The investment does not have an interest rate or monthly payments. The investor receives their money only at the time of the sale of the house or when the homeowner buys them out of the contract.

Additionally, a home equity line of credit (HELOC) needs a detailed review to ensure you can pay monthly. On the other hand, a shared equity agreement focuses on home equity, not credit. Even with poor credit, homeowners can qualify for a shared equity agreement due to its lack of monthly payments.

What is the difference between shared equity and a reverse mortgage?

A reverse mortgage, also called a home equity conversion mortgage (HECM), is for homeowners aged 62+. It lets them borrow against home equity, and repayment happens when the home is sold. Similarly, in a shared equity loan, repayment occurs when the home is sold or the borrower repays the loan.

What is the difference between a shared equity loan and a shared appreciation mortgage (SAM)?

A shared equity loan or a shared equity agreement is an arrangement between a homeowner and an investor. The investor gives the homeowner a lump sum of money in exchange for a percentage of the proceeds when the home is sold. A shared appreciation mortgage is similar in that the lender shares in the future increase in the value of the home, but it is a traditional mortgage. The lender trades off a better interest rate or a lower down payment in exchange for participation in the future sale of the home.

What is the difference between shared equity and sell & lease back programs?

A shared equity deal involves selling a part of a home’s equity for immediate cash. In a sell and leaseback, an investor purchases the home and leases it back to the homeowner. Homeowners usually have the choice to repurchase or request the sale of the property, often sharing in its appreciation.

What do people use shared equity loans for?

For most American homeowners, the equity in their home is the largest asset and it represents their financial prosperity. So, why would anyone sell part of that equity? Well, there are several reasons why people use shared equity agreements or loans. Some of them include:

Pay off high-cost debt

Being in debt can hinder financial progress. Clearing that debt is often the quickest path to stability and wealth-building. Shared equity agreements could offer a viable option for obtaining a substantial sum to pay off debts when few other options are available.

Clear medical debt

Medical costs have a way of ballooning quickly. And when there is a medical emergency, you have few options to shop around or decide to delay spending. A shared equity agreement can provide the resources needed to clear medical debt. 

Pay for remodeling

A person’s home is their most valuable asset. It is also central to their lives and day-to-day well-being. Delaying needed home repairs can often cause them to be more expensive as the situation deteriorates. Upgrading your living space can also do a lot to improve your day-to-day happiness. But, finding the money for home improvement projects can be a challenge, especially if you have damaged credit. Shared equity agreements may allow you to accomplish the home improvements you might have thought were out of your financial reach. 

Make a big purchase

It’s hard to save up for big purchases and might feel frustrating to know you have built up significant equity in your home, but that it is unreachable. Shared equity agreements allow people to release some of that value even if they have less-than-ideal credit. 

Business startup funding

Betting on yourself and starting a business can be one of the most empowering things a person can do in their lives. But, starting a business takes money, even for modest personal businesses. Getting that money can often be the budding entrepreneur’s biggest challenge. Share equity agreements can be a method for people to get small business funding when banks reject their applications. 

Pay for education

Education has become increasingly expensive. Financial aid can often be elusive for middle-class American families. Student loans can be a significant anchor on a young person’s effort to launch into adulthood. Shared equity agreements offer a way for families to utilize their home equity to support the next generation’s education, providing empowerment in funding education. 

What are the pros or the advantages of a shared equity agreement?

Shared equity agreements (or shared equity loans) can be a little confusing. They aren’t mortgages and they aren’t loans. It might be hard to see through the confusion and understand what the advantages might be to using a shared equity agreement.

Some of the pros are: 

Protect your monthly cash flow

Because shared equity does not require monthly payments, you can use your current cash flow for the things that are important to you today. 

• Don’t need to afford another monthly bill: Shared equity agreements offer a lump sum without monthly loan payments. If your budget is tight and can’t handle additional payments, shared equity might provide relief during a financial crisis.
• Money can be used for anything: There are no restrictions on what can be done with the proceeds from a shared equity agreement.
• No interest is charged: Interest expense can be one of those things that can silently siphon money out of your life. Shared equity agreements have no interest expense

Easy to obtain approval

Companies providing shared equity agreements primarily focus on the amount of equity accumulated in your house. Since they don’t require monthly payments, they don’t need to do the same level of affordability checks and underwriting. Homeowners with credit scores in the low 500s can usually get a shared equity agreement. 

• Damaged credit doesn’t mean a worse deal: In typical lending scenarios, a lower credit score often leads to higher APR approval. However, shared equity agreements differ in their approach. These agreements prioritize the equity built up in your home rather than your day-to-day financial situation. Therefore, they may approve you regardless of your credit score.
• High debt-to-income (DTI) ratios don’t matter: Getting money through shared equity agreements aren’t technically debt and don’t have monthly payments. That means traditional debt-to-income ratios don’t matter. 
• Won’t hurt your credit score: Because shared equity agreements are not loans, they will not show up on your credit report. They will not impact your utilization rate. They can’t show late payments (because they have no payments). And they can’t pull down your credit score. 

What are some of the cons or disadvantages of a shared equity agreement?

Share equity agreements can be confusing. Without monthly payments, how can I know if they are hurting me? Without an APR, how can I know how much they cost? Are they better or worse than other credit options? What are the disadvantages to entering a shared equity agreement that I should be aware of?

Here are some of the cons of shared equity agreements:

Uncertainty

You should definitely read a shared equity company’s terms and conditions, but some of the factors that will affect whether it was ultimately a good idea can’t be known: how much appreciation will my house gain? When will I sell the house? Will I need my home’s equity in the future?

Costs you in future wealth

Traditional loans impact your monthly finances, so you can sense how much they are costing you. Shared equity agreements cost you in the future value of your home. In short, shared equity agreements cost you some of your future wealth. That cost is harder to “feel.”

These can also require a large portion of your appreciation. Shared equity companies have different terms. Some of them will charge a meaningful portion of the appreciation in your home. Some will even charge you based on the total value of your home, so you are losing a lot of value even if the home doesn’t appreciate. 

Hidden costs

Keep an eye on additional costs like appraisal fees, origination fees, and other closing costs. Not all companies charge them, but when they do, they might feel especially hidden since these aren’t traditional loans. 

Shared equity is especially expensive in places with high appreciation. If you live in an area where homes have appreciated quickly and consistently, a shared equity agreement may cost you a lot more than it otherwise would. This is because these companies share in the future value of your home. 

Additional cons of shared equity

Equity requirement: While shared equity agreements don’t have strict underwriting requirements, they do require that you have at least 25% equity in your home.

Fine print: Some contracts allow the shared equity company to manually adjust the value of your home up when you sell it if they think you haven’t adequately taken care of the property. That can feel like an arbitrary power that allows them to take more of the equity. You need to look very closely at the fine print to avoid running into future problems. 

Does nothing to help your credit score: Because shared equity agreements are not loans and do not show up on a credit report, they will do nothing to improve your credit score. 

What are some home equity sharing companies? What companies offer shared equity loans?

Even amongst companies that offer home equity sharing options, there are dramatic differences in their policies, terms, and experience. You should always do your research to determine which company is best for you. The following are just a few of the companies that offer shared equity agreements:

• Unlock
• Unison 
• Point
• Easy Knock
• HomeTap
• Splitero