Apr142015

Would you trade future equity for HELOC money?

Lenders are willing to provide HELOC money requiring no payments until the time of sale if the borrower splits the remaining equity.

Are there any circumstances under which homebuyers would be willing to share in the upside of home price appreciation? I wrote about the concept of equity share as an option for housing bears. In that program, an investor puts up half the down payment in exchange for half the net profit at sale. Anyone who believes house prices will not rise would strongly consider such a deal because someone else ties up their money in the property rather than the buyer. Of course, then the property is burdened by a third-party equity claim, which most people don’t find appealing.

The original idea that came to market was for the lender to put up 10% of the purchase price as a purchase-money second mortgage. The new wrinkle is for the lender to provide a HELOC rather than purchase money assistance, but the effect is the same: get a little money and give up half of future equity.

Only for bears?

Strong arguments can be made for a ten to twenty year bear market in real estate. We are at the bottom of the interest rate cycle, and for the next thirty years, we may face an environment of slowly but steadily increasing interest rates similar to what we saw between 1950 and 1980. If that comes to pass, borrowing power will be steadily eroded just as it was steadily increased over the last 30 years. Combine this with the likelihood of a decade or more of underemployment and stagnant wages, and you have a recipe for house prices to go nowhere for a very long time.bears_were_right

If you are bearish and don’t believe this equity is likely to materialize through price appreciation, why wouldn’t you take this money?

When I considered this idea back when it was limited to purchase-money help, I thought it was an idea worth considering, particularly since I don’t believe appreciation will amount to much for the next several years, but when considering a HELOC, I’m not as excited about the idea.

Perhaps it shouldn’t make any difference, but it does. Squandering equity the owner already has is different than subsidizing a down payment the owner did not have. In the case of supplementing a down payment, it can make the difference between acquiring a house or not. In the case of a HELOC, it merely provides access to home equity that’s better left in place.

An alternative to HELOCs: Financing tied to future home appreciation

By Kenneth R. Harney, April 5, 2015norman-rockwell-spent_HELOC

WASHINGTON — So you’ve watched your home equity holdings grow steadily since the end of the recession, and now you want to tap into that wealth to fund a remodeling, college tuition or some other worthy but cash-consuming project?

If you have to borrow money for it, the project is either not worthy, or you failed to plan and save enough to get it done.

Join the crowd. Home equity lines of credit, by far the most popular way to turn equity into cash, are booming again — up by 36% in the last 12 months alone, according to the Consumer Bankers Assn. And no wonder: The Federal Reserve estimates that Americans’ home equity holdings have nearly doubled in the last five years and now exceed $11 trillion.

And most people are foolish and shortsighted enough to take this money and spend it; after all, it’s free money, and spending it has no consequence, right?

disappointing_sale

But here’s a question that growing numbers of owners might encounter in the coming months, especially in markets where growth rates in home values historically have been strong: Would you prefer loading more debt onto your house with a credit line

or would you prefer to wait and save the money? No, wait! That wasn’t an option.debt-based_illusion

or might you be open to trying something different — sharing part of your future appreciation with private investors? Would you consider taking a lump sum of cash now and make no payments for years, only settling up with investors when you sell or otherwise terminate the agreement?

Isn’t this a reverse mortgage in disguise? Shouldn’t a transaction like this be regulated like a reverse mortgage?

There are now companies operating in a small but expanding number of markets doing precisely this. If you cut them in on some percentage of your home’s growth in value during the coming years — anywhere from 30% to 50% or higher — they will write you a check for tens of thousands of dollars.

It won’t be a mortgage. It won’t carry an interest rate. And if there is minimal growth in value of your house — or the property declines in value — investors will end up earning relatively little. On the other hand, if home values soar in your area, they could end up with significant profits.

cave_HELOCThis is the rub. If you believe house prices are going to skyrocket, you wouldn’t do this, but if you believed house prices would go down, you probably would.

Sharing unpredictable future appreciation streams may sound odd — even risky — but it’s a trend that’s gaining momentum.
Could appreciation-sharing deals like these make sense for you? Possibly. But beware: You need to take a hard look at the details of the contracts, including what you might owe if you terminate the agreement in the first six or seven years, before investors have had a chance to earn much of a return.

In the end, you might conclude that a traditional equity credit line would be cheaper for you — and much more predictable. Or you just might conclude that interest-free money in your pocket, with no payments for many years, is worth the appreciation-share gamble. Either way, run the choice past your financial counselor, accountant or investment advisor.

just_say_noThe details of a deal like this would matter greatly. For example, is the equity split after selling costs or based on the gross? If it’s based on the gross, between the real estate agent and the lender, most buyers won’t end up with any equity at all after the sale.

The lure of free, or nearly free money is appealing. For purchases, I find this less objectionable than I do for cash-out refinances or HELOCs, but the net effect is the same.

So would you do this?


The Southern California housing market report for April 2015 is now available on the Housing Market Reports page, and access requires no registration. I will make these reports freely available every month to regular readers of the OC Housing News.


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