Could This Mortgage Innovation Help You Buy a Home?

Would you buy a home for a discounted price if you had to surrender much of the gains when you sold it someday? That’s the premise behind an innovative new housing strategy called “shared equity.”

It sounds a bit like a hybrid between buying and renting. Buyers who couldn’t otherwise be able to afford a home get a big discount — perhaps $100,000 off the market price — in exchange for giving up a large portion of potential equity gains in the future. The entity that sells the home — usually a nonprofit organization — keeps the rest of the profits, using them to fund other affordable purchases. By essentially capping gains, the model keeps prices affordable for entire neighborhoods, suggests a report issued recently by the Urban Institute called “Homeownership for a New Era.”

“Because such programs recycle subsidies over time, they can cost-effectively promote homeownership for low- and moderate-income homebuyers,” the report says. It examined nine ongoing shared-equity experiments occurring across America. All of them are small — the report covers only a few hundred purchasers. Still, it offers a glimpse into a new housing model that’s being considered across the globe.

“Shared equity programs provide homebuyers with a way of bridging the gap between what they are able to afford to pay in a mortgage and the actual market cost to own a property,” the report says. While models differ, “they all share the same goal of providing homeownership options to low- and middle-income communities with mechanisms in place to preserve the affordability of these homes over time.”

To be sure, shared equity is complex and requires a lot of explanation. Sales prices are tricky to set: They must balance median income on one side with median prices on the other. Set too high and they’ll still be unaffordable. Set too low, and they put the nonprofit at risk. Generally, prices are set at between 60-100% of area median income.

The resale price calculation can be even more complex. Some programs cap appreciation at 1.5-3% annually. Resellers are allowed to keep a portion of the change in appraised value, sometimes only 25%.

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There are other drawbacks to the programs. Buyers have less incentive to invest in improvements to their properties, since their capital gains are capped. Some programs add formulas to account for that.

Shared equity applicants are often less-than-ideal buyers, though the Urban Institute says they are often older than the median U.S. homebuyer (36 rather than 31), with a median credit score of 720, which is generally considered to be in the “good” range. (You can check your credit scores for free on Credit.com.) And they have saved an average of $6,000 towards a down payment — another indication that this group might be able to buy in a “normal” housing market. The most common barrier tends to be lower income, though they often work in stable industries. (This calculator can show you how much home you can afford.)

Still, because of their non-traditional makeup, the loans often cannot be resold on secondary markets, meaning nonprofits must keep them on their own balance sheets, which slows growth of the programs.

Similar programs being attempted in the United Kingdom and Spain have had some success. In Spain, shared home ownership is being developed in an attempt to match an excess of housing stock built during the housing bubble with would-be buyers who still can’t afford the empty homes. A report in Fortune magazine recently threw a bit of cold water on those countries’ programs however, which banks on buyers slowly working their way from the discount purchase to full equity ownership. Most buyers don’t, one research project found, frustrating both buyer and private seller.

In the U.S. programs studied by the Urban Institute, nonprofits maintained ownership in the homes, making deed and price restrictions on the property much easier to swallow. The Institute concludes the new model, warts and all, is ripe for further study, as it appeals to a segment of would-be buyers that other low- and moderate-income purchase plans don’t — namely strong buyers who simply can’t afford homes in areas where prices far outstrip incomes.

“Shared equity homeownership provides opportunities to low-income homebuyers that market-rate homeownership and other housing assistant programs simply cannot,” it concludes.