Is a home equity agreement a good idea? Exploring pros and cons

Homeowners today have more options than ever to boost their borrowing ability using home equity, helping them achieve a range of financial goals from remodeling their homes to paying off high-interest debt. Many of these home equity financing products require monthly payments and can be tough to qualify for, but that’s not always the case.

‍

A newer class of home equity financing tools — home equity agreements (HEA), also called home equity sharing agreements — are easier to get approved for and require no monthly payments until it’s repaid in full at a later date.

‍

If you're pondering whether an HEA is good idea, we'll cover the most common pros and cons of home equity sharing agreements so you can make an educated decision for you and your family.

How home equity agreements work

Home equity agreements work very differently than other financing options homeowners may be more familiar with, such as home equity loans and home equity lines of credit (HELOCs). A home equity agreement is different from traditional debt; rather, it’s a partnership where you offer a portion of your home’s future value in exchange for access to money today.

‍

Depending on the company and your own situation, you may be able to borrow up to $500,000. Since the company is buying a stake in your future home’s value — which is impossible to know today — you won’t have to repay the funds until the end of the HEA term, typically between 10 and 30 years, unless you sell the home or otherwise pay back early. 

‍

When the term ends, you’ll need to repay everything in one balloon payment: the amount you originally borrowed, the agreed-upon percentage of your home’s new value, and any fees. Many homeowners pay this back by selling their home, or with funds from somewhere else, such as personal savings or a loan.

‍

Home equity agreements are a type of shared equity agreement product, similar to Point’s Home Equity Investment (HEI). They’re very similar, albeit with a few minor differences. We’ll look into some of those next. 

Home equity agreement pros and cons

There are many benefits to HEAs, but also many potential downsides. If you know these drawbacks, you can prepare for them in advance so you can ensure the best experience possible. 

Pros of home equity agreements

Home equity agreements are becoming increasingly popular for several reasons:

No monthly payments

Making regular monthly payments, as you do with home equity loans and HELOCs, can be a significant drag on your cash flow. That’s especially true if you’re already on a fixed income, and it can make it even tougher to make ends meet. 

‍

Home equity agreements, however, don’t require any payments until the final balloon payment at the end. That frees up more of your monthly income to go toward savings, living expenses, or even just enjoying yourself. For many people, not having to make any monthly payments is the main benefit of an HEA.

Lower credit and income requirements

Another major benefit of HEAs is that they’re often easier to qualify for than regular home equity debt products, especially in terms of your credit score and income. Loans and lines of credit require regular payments, and so typically require a high credit score and income. 

‍

Home equity agreements, by contrast, are more flexible with these requirements because you won’t be required to make a payment each month. You can be approved for an HEA with a credit score as low as 500 in some cases; far below what most home equity loans require. 

‍

Many HEA providers also have no income requirements. This makes it a great product for self-employed borrowers or homeowners with low incomes.

No upfront cash required

Like other financing options, HEAs typically come with a few extra charges such as origination fees and closing costs. These fees help clear legal hurdles and set up contracts so that everyone is protected. 

‍

While you can pay for these costs out of pocket if you wish, it’s not a requirement. Instead, many HEAs allow you to subtract these costs from the funds that you’ll be disbursed so that your payout is a bit smaller. This makes HEAs more accessible to people who don’t have a lot saved up right now. 

Partial buyout

Most HEA providers allow you to buy out of your contract early to regain control over your full home equity amount whenever you want. This can be a substantial cost, but some home equity sharing companies offer partial buyouts. Making smaller partial buyouts can be an easier route toward paying back your contract in full. Not every company offers this option, so make sure to do your research if this feature is a priority for you. 

Cons of home equity agreements

Consider these downsides to HEAs and how they apply to your situation before you decide to pursue one. Knowing the drawbacks can also help you get ready for them in advance. 

True cost is unknown until later

With debt-based financing, like credit cards, you know the exact cost of borrowing money before you even take out the loan. This is measured by a loan’s annual percentage rate (APR), and it offers a handy way to compare different financing options and calculate the exact dollar amount in fees and interest that you’ll pay over the entire course of the loan.

‍

That’s not how HEAs work, however. The amount you’ll have to repay is based on the future value of your home via a home appraisal. Since that’s not possible to know in advance, there’s no way to compare how expensive it will be next to your other borrowing options.

‍

The good news, however, is that many HEA companies place a limit on the maximum equivalent interest rate you’ll have to pay. This can be a good way to compare your borrowing options since your repayment amount won’t be any higher than this.

Short repayment term

Many HEA companies offer only a 10-year term, which comes with both pros and cons. On one hand, your home’s value — and thus, the amount you have to repay — probably won’t increase as much in 10 years.However, it also means that you’ll have a shorter runway to pay back your HEA. If you’ll be saving up money to repay using cash or building a good credit score to qualify for a loan, you may need a longer period to get ready. 

‍

A 30-year term can simplify repayment since you will almost certainly be done paying off your mortgage in 30 years. If the longer term is important to you, you may want to consider Point’s Home Equity Investment (HEI) instead of an HEI. An HEI gives you the security of a 30-year term with the flexibility to repay at any time. 

Balloon payment

Unlike most other types of financing that people are familiar with, HEAs require repayment in the form of a balloon payment; i.e., everything, including fees, your share percentage, and the original amount of money you borrowed, all at once. This one-time payment will be tens of thousands of dollars or even higher, depending on how much cash you pull out, which isn’t exactly something most people can pay at the drop of a hat. 

‍

Instead, many homeowners choose to repay an HEA out of the sale proceeds then they decide to sell their home. (Keep in mind this means that you won’t receive the full amount of your home sale). Others may choose to use savings or take out another loan, such as a reverse mortgage.

Foreclosure possibility

You always retain full ownership of your home when you borrow with an HEA. However, just as a mortgage lender isn’t listed on your home’s title but does have a lien filed on your home, so too will your HEA partner. If you’re not able to repay the agreement as planned when payment becomes due, your home may be put into foreclosure. 

Impact on heirs

It’s a good idea to consider how an HEA might fit into your estate plan, especially if other people live in your home with you or you’re looking to pass on your home to an heir. Most HEAs become due once the borrower (or borrowers, if more than one person is listed on the agreement) passes away.

‍

If other people are living in your home but didn’t sign the agreement with you, they (or your estate) will have to pay back your HEA in order to keep the home. Otherwise, it’ll have to be sold, even if your surviving spouse still lives in the home. 

‍

This is one of the major differences between Point’s HEI and HEA products. With an HEI from Point, your heirs can choose to take over your contract if they wish, thereby allowing them to keep the home within your family more easily.

Limits to risk sharing

Sometimes having your repayment amount tied to your home’s value, rather than a pre-set interest rate, works in your favor. If your home’s value goes down due to market conditions and other factors outside of your control, the amount of money you may have to repay could be less than the original amount of money you borrowed.

‍

However, some HEA companies put limits on this. For example, if you buy out your HEA contract early (to take advantage of a downswing in home prices, let’s say), some providers won’t share those losses with you. In this case, there may be an alternative way to calculate the HEA repayment amount in the contract so that the company doesn’t take a loss. Point’s HEI does not penalize you for early repayment and will share the loss with you under a predetermined threshold. 

Additional considerations

Like most other home equity products, an HEA will require you to care for your home and maintain homeowners insurance coverage. Failing to do so can put you at risk of default. Additionally, some HEA providers will have special requirements for renting out your home, refinancing your mortgage, or otherwise making changes to the property. It’s important to be aware of all of your contractual duties before you sign. 

‍

Additionally, most homeowners choose to invest in home improvements over the years, whether that’s modifying a home to age in place, building a mother-in-law apartment, or just remodeling a kitchen. Those things can increase the value of your home, which in turn increases the amount of money you have to repay when the payment becomes due. 

Is a home equity agreement a good idea?

Home equity agreements can be an excellent option if you need to take money out of your home, particularly if you’re having a hard time qualifying for other financing methods due to income and credit challenges. Leveraging the equity in your home can help you get your finances back on track, consolidate debt, or fund a major purchase without constricting your monthly cash flow.

‍

However, it’s essential to consider the long-term implications. Understanding HEA loan pros and cons can help determine if a home equity agreement aligns with your financial goals and timeline.

‍

If you're looking for a longer term length or more flexibility in terms of your contract, an HEI from Point may be a better option. Homeowners today have a wealth of options when it comes to unlocking their hard-earned equity. Make sure you do your research and choose the best option for your finances and long-term goals.