A shared equity mortgage is when a friend or family member helps with a down payment in exchange for equity in the home, typically benefiting parents who help their children. The helper receives a percentage of the home’s resale value and gain in value, but there are risks if the house depreciates or the borrower defaults. This arrangement benefits young adults who lack equity, and a written agreement is important to avoid family resentments and financial problems.
A shared equity mortgage is an arrangement whereby someone who buys a home receives help with a down payment from a friend or family member in exchange for equity in the home. This most commonly occurs when a parent helps a child with a down payment and may benefit from an increase in home value in later years. In a typical equity mortgage, the person helping with the down payment is typically given a percentage of the price of the home when it is resold, as well as a percentage of the gain in value. The danger in this agreement for the borrowing party occurs if the house depreciates in value or if the borrower defaults on the initial agreement.
Many young adults looking to buy a home may not have the equity to pay the down payment required to secure a fixed-rate mortgage. Conversely, their parents may have the capital to help out these potential homeowners. A simple loan does not provide much benefit to the lending party, but a joint equity mortgage does the double duty of helping the child while representing an investment for the parent.
As an example of a joint equity mortgage, imagine a young married couple wants to buy a home valued at $250,000 United States Dollars (USD), but they only have $10,000 of the $50,000 required to secure a fixed-rate mortgage. They ask the husband’s father for help, and he gives them the rest of the down payment, which comes to $40,000 USD. Since that $40,000 is 16 percent of the home’s value, the father is awarded that percentage of the home’s resale value, as well as the same percentage on any gains in value on resale.
Therefore, if the home were to achieve a value of $500,000 USD at the time the couple decides to sell it, the husband’s father must pay 16 percent of the $500,000 USD, or $80,000 USD, as well as 16 percent of the $500,000 USD. percent of the profit of $250,000 USD, or $40,000 USD. That means the parent receives a return of $120,000 USD on an initial investment of $40,000 USD. Please note that the percentages are not automatically determined by the percentage lent to the homebuyer and may be set by the parties at a mutually agreeable rate.
It is important to realize that there are risks in a shared equity mortgage. For example, if family members trust the trust and do not put the agreement in writing, one party may not honor the agreement. That could cause family resentments, as well as possible financial problems for one or both parties. Also, if the value of the home depreciates, the borrowing party, depending on the terms of the loan, could be responsible for the decline in value.
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