Home Equity Agreements

One of the most contentious issues in divorce is the disposition of the marital home. Interest rates that are no longer in the less than 3% range as they have been for the past 12 years. Re-financing is typically needed for many existing mortgages when one spouse must be removed from the mortgage and deed.

 Also, to buyout the other spouse, the spouse remaining in the home has typically used home equity loans or home equity lines of credit (HELOCs). These have worked well in a low-interest-rate environment without imposing a hardship on the remaining spouse. However, in today’s interest rate environment, the cost can be insurmountable.

 Home Equity Agreements (HEAs) are a rather new class of home equity financing tools which are easier to qualify for and which require no monthly payments until it is repaid in full at a later date. They are not necessarily ideal for the buyout of the other spouse, however, and have many pros and cons. 

 Depending on the company and the situation of refinancing or adding a loan for buyout purposes, the HEA allows borrowing of typically up to $500,000. However, the company “lending” these funds is actually buying a stake in the FUTURE value of the home. There is a tradeoff of future appreciation for funds today.

 Funds are not typically needed to be repaid until the end of the term which is typically between 10 and 30 years, unless the home is sold and paid back early. However, at that time, the payment is 100% of the original amount borrowed, similar to a balloon payment. At this time, the homeowner would need to sell, refinance or otherwise find the funds to repay the loan plus the appreciation.

Advantages of HEAs:

·      No monthly payment, thus saving cash flow and allowing for a higher standard of living especially if income is fixed in retirement.

·      Lower credit and income requirements to qualify for the loan. Since there is no payment each month, a lower credit score is acceptable. 

·      No upfront cash is required. HEAs allow the homeowner to deduct the cost of origination fees and closing costs from the funds that will be disbursed as a loan to help with covering these costs.

Disadvantages of HEAs:

·      One of the major disadvantages is that the true cost of the loan is unknown. The amount that will be required to be repaid is contingent upon the future value of the home. There is no way to compare how expensive this option is to other conventional mortgage loans. While there is typically a limit on the maximum interest rate that will be paid, the borrower has no idea what the actual rate will be.

·      The 10-year term, while allowing for a shorter time to appreciate in value thus reducing the amount to be paid, also has a shorter runway to pay back the HEA.

      While the 30-year term simplifies the repayment it is a balloon payment nonetheless, and many have no other option than to repay the HEA with sale proceeds of the home. This also means that the homeowner will not receive the full amount of the home sale proceeds.

·      If for whatever reason the homeowner is unable to repay the home when the agreement is due, the home may be put into foreclosure since there will be a lien filed on the home by the HEA company.

·      If the home is also inhabited by heirs or others, it is important to consider the implications once the balloon payment is due. If the repayment cannot be made with other funds or by other people living in the home, when due, or upon the borrower’s death,  there is no choice but to sell the home if they did not sign the agreement as a co-borrower.

·      While there may be a favorable outcome if the home depreciates in value since the amount of money that will be required to be repaid will be less than the original amount of money owed, there are limits on this. Often HEA companies will not share those losses with you. There may be a provision in the contract that the company does not take a loss. Or, if the value goes down, the company may take an adjusted share of the sale price, which can be less than what you received upfront. While this is a favorable outcome, it also means that there are fewer proceeds from the sale of the home to use for the pay back. 

·      There are other constraints that may be required by the company. Besides maintaining homeowner’s insurance coverage, there may be restrictions on renting out the home, refinancing the primary mortgage or other updates and modifications to the property.

·      Improvements made over the years may add value to the home. This may be true for modifications to age in place or simply aesthetic updates to stay modern. Unfortunately, the added value will increase the amount of money owed when repayment becomes due.

·      The costs for a shared equity agreement go beyond the appraisal. The origination fee, title and escrow costs, title insurance, state taxes, notary and recording fees and others can add up to cost thousands of dollars from the funds available for use.

·      The homeowner may not be able to refinance a home loan after entering a home equity sharing agreement.

·      If the home falls into disrepair or do anything to reduce the value of the home, the HEA company will not share in the loss of equity.

Several companies offering HEAs include Hometap, Point, Unison and Unlock in 2024. These agreements are designed for homeowners who are home equity rich but cash poor or with credit or debt challenges that would hinder their ability to be approved for a secured loan. They require a home appraisal to determine the property’s value and will provide a pre-qualification estimate to determine how much cash you could receive now in exchange for sharing part of the future value of the home.

 The most significant risk associated with HEAs is with the appreciation of the property value, especially significant in the state of California. This amount can result in a balloon payment that is more than double or even triple the amount of the original loan. In many cases, the advance received may not be worth the equity given up later. By signing away a percentage of your future appreciation, you could be paying the company far more for the upfront cash than what you would pay a lender for a HELOC or home equity loan.

 Those who benefit from equity sharing programs are homeowners who plan on staying in the home long term, those who have high medical or other high-interest debt but cannot afford to finance with a traditional loan, or homeowners who may not qualify to get a home equity loan or HELOC.

 It is generally the consensus amount real estate lenders that if there is a steady source of income and monthly payments are affordable, a homeowner is usually better off with a home equity loan, line of credit, personal loan or mortgage refinance.

 Note:  This article is for informational purposes only and is not intended to provide either tax or legal advice.  Please contact your attorney or accountant and rely on their independent research and advice for these matters.