In a shared appreciation mortgage, the homeowner shares some of the profit earned as the home’s value increases over time. Generally, lenders or organizations offer shared appreciation mortgages in exchange for lower mortgage rates. These mortgages are rare but they can put homeownership in reach for those with lower incomes.
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How Shared Appreciation Mortgages Work
First off, let’s review the basics of home appreciation. Say you buy a house for $200,000. When you’re ready to sell 10 years later, your home is worth $250,000. In other words, your home has appreciated to the tune of $50,000.
When you take out a normal mortgage, your lender extends you a loan at a certain interest rate. You buy the home and, with luck, the home appreciates. When you sell the home you reap the value of that appreciation. To return to the example above, you profit from the $50,000 increase in the value of the home. You have to pay back any principal remaining on your home loan, but the appreciation is yours.
A shared appreciation loan puts a spin on this traditional arrangement. When you take out a shared appreciation mortgage, you agree to share a certain percentage of your home’s appreciation with your lender. You give your lender a “contingent interest” in the appreciation of the home. In the example above, you might agree to give your lender 15% contingent interest. At the time of sale, you would turn over 15% of that $50,000, reducing your share by $7,500.
In return for getting a portion of the predicted appreciation of your home, the lender will agree to offer you a discount on your interest rate. The lender might give you an interest rate that’s 1 or 2 percentage points below the prevailing interest rate in the mortgage market.
When a Lender Offers a Shared Appreciation Mortgage
Why would a lender offer a shared appreciation mortgage? In the U.S., it’s not common practice for lenders to offer shared appreciation mortgages. When commercial lenders do offer shared appreciation mortgages they often do so on second mortgages.
Say a homeowner is underwater on a mortgage, meaning he or she owes more to the lender than the house is worth. If that homeowner decides to undergo a mortgage modification, the lender might offer a shared appreciation mortgage. The lender could agree to bring the homeowner back above water by basing the new mortgage on the current value of the home. In exchange, the lender might want a shared appreciation mortgage.
The shared appreciation might be a set percentage due at the time of sale, or it could be a percentage that phases out, i.e. reduces gradually over time, eventually zero-ing out. If the homeowner stays in the home for long enough, he or she won’t have to share any appreciation with the lender.
In exchange for agreeing to the shared appreciation, the homeowner is no longer underwater on the loan. The loan principal is reduced to the current market value of the home, meaning the homeowner’s monthly payments are lower.
What’s in it for the lender? For one thing, it softens the blow of reducing loan principal in a mortgage modification. It offers an opportunity for the bank to reap both interest payments and a share of the home’s appreciation.
Shared Appreciation Mortgages from Non-Profit Organizations
Sometimes, non-profit organizations or government agencies might offer shared appreciation mortgages as a way to help low-income families make the jump to homeownership. The non-profit or government agency would effectively subsidize a family’s home purchase, either through down payment assistance or by offering a reduced interest rate – or both.
If the non-profit or government agency wants to recoup some of the money that it uses for the subsidy, it may insist on a shared appreciation mortgage. That way, when the family who received the subsidy sells the home, the non-profit or agency will get some money back. That money can then go to another family’s down payment assistance.
For example, if your city government or a non-profit in your area agrees to lend you 20% of a home’s value as down payment assistance, that entity might stipulate that you pay them 20% of the appreciation on the home when you sell it or refinance your loan.
A shared appreciation mortgage is a rare bird in the American mortgage market. However, it can be helpful to know what these mortgages are and how they work. That way, if you spot a sneaky contingent interest clause in a mortgage or you’re evaluating various homeownership promotion programs in your area, you’ll be able to make an informed decision.
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