Owning a home is the dream of every American, marking a significant milestone in their lives. Unfortunately, owning a multi-million-dollar property is not a simple affair. Shared ownership, also known as equity sharing, is an opportunity that makes the dream a reality.
Statistics in Florida show that on overwhelming 96 percent of the applicants for equity sharing are not homeowners. Being a homeowner is one of the requirements of qualifying for shared ownership. Approximately half of the applicants have a graduate or post graduate qualification, an education level that is higher than for the general population in the US.
In equity sharing, you, as the homeowner, and an investor get into an agreement that allows you to give some of the equity in your home to the investor. At the end of the contract, both you and the investor share the home appreciation.
Before you commit yourself to the arrangement, here is what every homeowner needs to know about equity sharing.
Financial Contributions and Cost Sharing
At the back of your mind, remember that both you and the investor will share the initial costs of acquiring the property. They include the down payment and closing costs and are referred to as the Initial Capital Contributions. The transaction acts like a loan advanced to you, but there are no monthly repayments to be made.
Others costs to be met by both parties are the costs of improvements and repairs, also known as Additional Capital Contributions.
Both categories of contributions are shared according to the formula that both parties devise and settle on. These costs are reimbursed before allocation of profits. The other costs of property taxes, mortgage payments, and routine maintenance costs are the responsibility of the occupier.
Keep in mind that you will not get reimbursement for additional capital contributions. The initial capital contributions include:
- Down payment
- Fees payable to the investor depending on the contribution amount
- Applicable bank fees
- Title insurance
- Escrow fees
- Inspection fees
- Recording and Notary fees
- Attorney fees
Homeowners are required to pay property tax and insurance when the property is initially purchased. These costs should not be included in the initial capital contributions as they do not form part of the costs of purchase. They qualify as prepayment costs of owning the property.
Equity sharing sometimes involves a seller and an investor. Both parties must agree if the closing costs will form part of the initial capital contribution. Customarily, the seller closing costs are met by the seller. They include transfer taxes and sales commissions but differs from one place to another.
After reaching an agreement which costs should count as initial capital contributions, the parties must agree on how much each will contribute.
What Happens if You Have Little or No Down Payment?
The lower the amount you contribute as the occupier, the higher the risk is for the investor. If you make little or no contribution to the down payment, you will have little or no equity of the equity share. Lack of capital exposes the investor to the risk of the occupier breaking his promise as there is nothing to lose.
The consequences are worse if the home occupier breaks the promise. In such case, the investor cannot offset the losses while the occupier has equity on the property.
Types of Equity Sharing
Shared ownership falls into three versions:
- Traditional arrangement- the investor provides all or part of the down payment. The second party or the homeowner occupies the house and meets all related expenses.
- Co-occupier transaction- in this arrangement, there is no investor in the equation. Instead, more than one occupier lives in the property and share in the costs.
- Joint venture transaction- in this case, there is no occupier, but there is more than one investor.
In the traditional equity sharing, the investor can be a family member, a seller, or a third party investor. In a buyer’s market, the seller becomes a marketing magnet if he offers to fund the down payment. This is especially when the circumstances force them to slash prices.
From the loan obtained, the seller can cash out at least 80{f5b803b3ff349ad072c7061546ce6e083822d9eb1c075da9c628d64f032e5ca9} of value and turn the expense and property over to the occupier. Cashing out and moving on to another property is an advantage. The seller will still have a share in the property’s appreciated value and receive several tax breaks.
You Can Save Your Home Using the Equity-Sharing Strategy
If you are struggling financially and probably facing foreclosure, equity sharing might be what you need. Getting into a shared equity agreement can be the quickest and most convenient way to save your home. In this arrangement, the investor will bring your mortgage payments up to date.
The investor will continue to make monthly payments on your behalf while you put up the house for sale. In so doing, you do not lose your home, while putting you in a position to gain from the proceeds of the deal. Some investors will allow you to continue living in the house until you find a buyer.
In some other cases, the arrangement may require you to vacate so that the investor can put it up for rent. If this happens, the investor will share part of the rental income with you. The future profits resulting from the sale will also be divided depending on the equity shares.
Any appreciation the house might have gained by the time of the sale must also be shared. Under most circumstances, a preset percentage will be used during the sharing. The investor will less the costs of property taxes, bringing the mortgage to current, repairs, management costs, and mortgage payments.
The shared equity arrangement is an arrangement that gives you time to reorganize your finances. In future, if your funds allow, you can buy out the investor at a set price. You can keep your home if this is what you still want.
Who is the Right Candidate for Shared Equity?
Shared equity contracts are designed to help individuals who cannot afford a down payment for house purchase. It is may not be an easy task to put together the 20{f5b803b3ff349ad072c7061546ce6e083822d9eb1c075da9c628d64f032e5ca9} deposit required on a luxury home. In such a case, an individual will benefit from taking money from an investor and pay it back later.
The arrangement comes with the risk of losing a significant portion of the home’s appreciated value if the equity rises quickly. However, the homeowner does not owe the investor all of the increased amounts of the property. Some of the scenarios in which the shared equity arrangement could be particularly useful are:
- When you need a home in a fast-moving market- supposing you get a job in an area where houses sell rather quickly, equity sharing could come in handy. In such a situation, it works best if you contribute the more substantial portion of the down payment.
- When increased interest overshadows the risks- if you offer a lower down payment amount, the private mortgage insurance and interest you pay can be expensive. If the benefits of equity sharing are more than the costs of interest and PMI, the arrangement could work for you.
- If consumer debt is overwhelming you- consumer debt with high interest rates can be rolled into a low-interest consolidation loan. However, if you have a lot of debt, you probably have bad credit. Getting a consolidation loan can be hectic.
Shared equity agreements do not take into account your credit score since they are not loans. Their income and credit requirements are often friendly. You can easily qualify for a cash-out from an investor.
At the End of the Agreement
Every homeowner needs to know what to expect at the end of the equity sharing. Understanding this final process puts you in a better position to decide if shared equity is for you.
At the expiry of the agreement, you will need to pay for an appraisal of the home. About 10-20 percent of the value will be discounted to accommodate risk.
If the home appreciates, you will pay back the investor’s money and its stake in the increased value.
If the home’s value does not appreciate, you will repay the equity you drew and the risk-adjusted discount taken by the investor.
And if the home loses value, a portion of the loss in value will be deducted from your equity. Depreciation may be determined from the original appraisal of the home, and not the risk-adjusted discount.
Conclusion
Shared equity is fast gaining popularity in the real estate world. It has proved to be one of the best ways for buyers to become homeowners even without the hefty down payments that sellers require. Equity sharing benefits both the occupier and the investor.
The investor gets an investment with the potential for growth secures by real estate. The homeowner can purchase a home they otherwise would not have afforded for lack of enough finances. In the end, both parties share in the appreciation of the property if the shared equity agreement is done the right way.
Learn as much as you can about shared equity. As with any investment or lending programs, dig as much as possible into the particulars. If you have any question, just reach out to us.