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Matthew is the CEO and Founder of QuantmRE, a company that solves a real problem for homeowners by helping them access a portion of their home equity without taking on more debt. Matthew has a proven track record in real estate innovation through his experiences as Co-Founder of the Secured Real Estate Income Strategies Fund, and as President and Founder of Crowdventure.com, a real estate crowdfunding company.
In today’s episode we discuss home equity agreements, a tax free way to tap in to the equity in a property without a loan. We also discuss why hedge funds want to get in on the single family space, how blockchain with change the future of real estate transactions, and more!
Home Equity Contracts
A homeowner has built up equity in a home over a number of years. To access this wealth, the only way to do this is to go to the bank and borrow money. Money would be borrowed through a mortgage, a home equity line of credit (HELOC), or a reverse mortgage. To tap in to equity, these transactions involve going back into debt or deeper into debt.
"A home equity agreement is a very different financial tool. It's not a loan in any shape or form. It's equity-based financing, it allows investors to buy in to the potential appreciation of the home, and get paid that way, rather than being paid by charging interest."
An investor pays a homeowner a lump-sum in exchange for the right to take a share of the current value and some of the potential future increase in value. When the homeowner sells the home, some of that appreciation would be shared with the investor.
When the homeowner sells the home, part of the increase in value goes to the investor, and that's how they're paid. In exchange, the homeowner gets a lump-sum that is is tax-deferred - no taxes or capital gains. It doesn't appear as debt on credit reports.
These funds can be used to pay loans, invest in other projects that provide liquidity and cash flow, increase, cash position, get out of forbearance, pay down a mortgage.
The investor is giving cash as a % amount of the market value of the home. The investor would also be paid a % of the appreciation upon sale.
In most cases, there are no restrictions on when the homeowner can sell, and no prepayment penalties if the homeowner decides to buy out the contract. The home would just be assessed at the current market value.
This contract is structured as an option, so this is a future transaction, and the lump-sum payment is not a taxable event. This is not a debt product, tenancy in common, or co-ownership.
Risks in Home Equity Contracts
From an investor perspective, risks are that the home falls into disrepair or is neglected, or the homeowner does something else to undermine the value of the home. This risk can be mitigated by ensuring the homeowner still has a certain, ideally large, % of equity after the contract is done. Larger skin in the game for the homeowner is certainly better for the investor.
If the value of the property significantly drops, and the homeowner sells, the investor may have a low return or potentially lose money.
Because it's not a loan secured by a property, it's an investment in future performance of an asset. For the homeowner, there is no risk of foreclosure. The homeowner needs to make sure they understand their cost of capital.
Ideal Use Scenarios
Compared to a low interest rate HELOC or a cash out refinance, the cost of capital would likely be higher from a home equity agreement.
If you have the ability to borrow money and make monthly payments, this may not be the best product for you. If you are in a situation where you have a significant amount of equity and would like to defer capital gains by avoiding a sale, this transaction could be well worth your time. Additionally, if you have a solid chunk of equity but you don't qualify for additional financing - or you don't want to take on more debt - you can still access your equity.
For the homeowner, this really comes down to an analysis of the cost of capital and opportunity cost. The homeowner could use home equity contract proceeds to invest in other income-generating assets, such as stocks, bonds, and other real estate, and it may be wise to do if these other actions will generate higher returns than the continued growth of their equity in the home.
The investor pool is primarily long-term capital, such as investment funds, hedge funds, endowment funds, and multifamily offices. These groups view single family real estate as a very safe, long-term asset class that is guaranteed to beat inflation over any given decade.
Blockchain in Real Estate
Matthew believes blockchain will influence the real estate industry internally, making things easier and faster. Additional efficiencies
"There's no reason why real estate cannot benefit from the same levels of increased efficiencies and lower costs because of these types of technologies. If you think of all of the costs involved with buying and selling property, in terms of the agents, legal fees, registration fees, and how a lot of it is still paper-based..."
Matthew foresees that less time will be required at each stage and less total human exchange will be necessary. Property and ownership is transfer can be a convoluted and expensive affair, with often localized processes and no central ledger. Matthew acknowledges that many legal and regulatory changes must be made before this technology could totally permeate the real estate industry, so adoption could be a slow and long process.
Learn more about Matthew and his work: https://www.quantmre.com/