Most U.S. homeowners have accumulated a substantial amount of home equity in the past few years. But there are limited options to access this wealth in the current economic environment.
A report from Black Knight showed that in June 2023, homeowners with a mortgage had $10.5 trillion in tappable home equity, or the amount of equity a homeowner can access while still retaining a 20% share. This number has grown significantly since February 2020, at the start of the COVID-19 pandemic, when U.S. homeowners had roughly $6 trillion in tappable equity.
“Collaborating with companies that specialize in home equity investments could open up new avenues for diversified financial services.”
In recent years, a new home equity product has emerged that helps homeowners who might not otherwise qualify for traditional financing options. It’s called a home equity investment (HEI). This type of alternative financing helps homeowners access cash without monthly payments.
A home equity investment provides homeowners with a lump sum of cash in exchange for a share of their home’s future value. Homeowners can access their home equity without selling their property or adding to their monthly payments. Some HEIs also don’t have the restrictive qualification standards of traditional loans, such as minimum credit scores or monthly income requirements.
For example, about 1.5 million home equity lines of credit (HELOCs) are originated annually, but most lenders require a FICO score of at least 620. Comparatively speaking, few companies offer the nontraditional HEI product and partner with homeowners throughout the term of the investment. It’s a partnership that benefits both the homeowner and the investor: The more the home value goes up, the more each of them benefits.
In addition, home equity investments aren’t installment loans that require a monthly payment. They don’t affect a homeowner’s current mortgage. This means that a homeowner can keep their existing mortgage and not worry about selling their home or refinancing right away.
There are a few requirements for homeowners to meet, which vary across HEI providers, but these typically include a minimum amount of equity in the home and limits on the type of property serving as collateral. Homeowners can use the funds to better their lives in many ways — such as paying off debt, saving for retirement or renovating their home.
Homeowners have recently turned to home equity investments because of their significant levels of equity, rising interest rates and existing 2% to 4% low-rate mortgages. In addition, the lack of homes for sale makes current homeowners less inclined to sell, leading to a well-known phenomenon known as the lock-in effect.
The lock-in effect is a trend in which homeowners feel stuck in their existing properties. This effect is being driven by a combination of factors: borrowers with historically low-rate mortgages, the rapid increase in interest rates over the past two years and the lack of available inventory to choose from. According to the National Association of Realtors, existing home sales in July 2023 were 17% lower compared to the same period last year.
Rising mortgage rates have certainly caused homeowners to feel locked into their homes and existing low-rate loans. The Fed has raised benchmark rates at the fastest pace in history — 11 times since March 2022. For many homeowners, it doesn’t make financial sense to give up their favorable rate for a higher one.
Even if homeowners might normally move for new jobs, growing families or location preferences, they’re frequently choosing to stay put. Not only is the rapid increase in interest rates fueling these decisions, but the lack of inventory has driven up home prices. If a homeowner does move, not only is their mortgage rate likely to go up but so is the cost of their new home.
First and foremost, home equity investments provide homeowners with a way to access valuable cash. Their equity, which accumulates over time as they make mortgage payments and property values increase, can be accessed through an HEI without the burden of monthly payments, which sets this option apart from a traditional loan.
Many home equity investment companies take a more flexible approach to credit scores. While they are often required (since the HEI is a risk-based product), some providers don’t have a minimum credit score. This means that homeowners who might not otherwise qualify for a HELOC, home equity loan or cash-out refinance may be eligible for an HEI. Many homeowners use their cash to pay off high-interest debt and repair their credit scores.
Oftentimes, income statements are not required to prequalify for a home equity investment since it is not an installment loan. This makes it a great option for homeowners who may be in between jobs, self-employed or retired.
Additionally, home equity investments typically have no restrictions on how the funds can be used, offering homeowners the freedom to allocate proceeds accordingly. Whether it’s for home improvements, debt payoffs, educational expenses or any other financial goals, the choice is entirely theirs.
Leveraging the equity that homeowners currently have, in exchange for a lump sum of cash, will reduce the amount of equity they’ll have in their homes. And because the borrower is sharing a portion of their home’s future value with an investor, this reduces the amount of equity they’ll collect in the long run.
Finally, HEIs often allow homeowners to repurchase their equity at any point within a specified time frame, which can extend up to 30 years. This feature adds an extra layer of flexibility and control, allowing homeowners to tailor their financial strategy to their changing circumstances.
U.S. home equity is at the highest point it’s ever been, but accessing this wealth is still not easy for many homeowners. Traditional home equity products (including HELOCs, reverse mortgages and cash-out refinances) are not always accessible to homeowners due to stringent qualification criteria.
For homeowners who might not otherwise qualify for a traditional financial product and need to access their home equity, originators should determine whether the homeowner is eligible for a home equity investment. Adding this option to their offerings also presents an opportunity for originators to assist a wider range of clients.
Collaborating with companies that specialize in home equity investments could open up new avenues for diversified financial services. As the demand for alternative home financing continues to grow, mortgage originators may be able to partner with these companies to offer more tailored solutions to homeowners while adapting to the ever-changing financial markets. ●