05.Shared equity mortgage
A shared equity or shared appreciation mortgage (SAM) works differently from a normal home loan:
- You borrow, say, 20% of the value of the property as a SAM and instead of paying interest on it, you’re charged a percentage of the capital gain when you sell.
- For the remaining percentage of the home’s value (minus your deposit) you take out a normal home loan.
- This means your monthly repayments are lower than they would have been if you’d borrowed the whole amount under this loan.
What paying back a portion of the capital gain means is that as the value of the property increases, so also does the repayment amount. And, of course, it’s very hard to predict just how much the capital gain is going to be. For example, in the last 20 years in Sydney, annual changes in the value of house prices ranged from a decrease of 3.9% (2004/05) to an increase of 46.1% (1988/89).
The RISMARK/ADELAIDE BANK Equity Finance Mortgage (EFM) was launched about a year ago and is available in capital cities (and some other metropolitan areas) in all states except the NT and Tasmania. With it you can borrow 10%, 15% or 20% of the value of the property under a shared equity mortgage.
After 25 years, or when you sell the house, you have to pay back the initial amount you borrowed, plus 20%, 30% or 40% (double the percentage you borrowed) of the capital gain. If you make a loss, the lender covers 10%, 15% or 20% of the capital loss, which is then deducted from the amount you have to repay.
- With this loan, if you’d bought a house worth $100,000 in June 1987 in Sydney and borrowed 20% ($20,000), on average it would have been worth $461,490 in June 2007, and if you’d sold it you’d have to pay back about $164,600. So the equivalent rate of interest you’d have been paying to RISMARK would have been about 10.6%.
- If you’d taken a loan over the same period, the average standard home loan rate would have been 9.5%. Obviously with a standard home loan, you’d have had to make regular repayments over the whole period, whereas with RISMARK you only pay a lump sum at the end.
- Over a shorter period the picture could look very different. For example, if you’d repaid the same loan of $20,000 after two years, following the massive jump in house prices in 1988/89, you’d have already owed $49,137, meaning you’d have paid RISMARK the equivalent of an interest rate of 45.8%. While this was a time with exceptionally high increases in house values, property values go in cycles and for a normal consumer it’s sometimes hard to guess at which point in the cycle you currently are.
There are a number of other downsides to the RISMARK/ADELAIDE BANK product:
- At the time of writing, it could only be combined initially with a normal home loan from ADELAIDE BANK, which limits your choice of lender and products.
- Due to the way the property’s value is calculated, you won’t necessarily get your money’s worth if you make any improvements, especially in the case of DIY renovations.
- If you’re in default of the loan conditions and the house sells for less than you bought it, the lender doesn’t share the capital loss.
A possible alternative
A number of state government or state government associated lenders offer shared equity mortgages too. They often have much more generous conditions, but some aren’t available to everyone - they’re based on income and the price of the property.
CHOICE verdict on shared equity mortgage
A shared equity/shared appreciation mortgage is a very complicated product and very different ot other mortgage. It’s crucial to understand the fine print: you need both legal and financial advice. While a normal mortgage diminishes over time and is likely to be easier to pay in later years when your income increases, the shared equity repayment amount grows with the value of the property.
Obviously meanwhile you’re enjoying a better cashflow position as you don’t have to make repayments on the shared equity mortgage. But you become hostage to developments in house values. Shortly after a period of high capital growth is a very bad time to sell, even if your personal circumstances, such as having a baby on the way would make selling and upgrading the best option for you.
The bottom line is that the only way you come out on top is if you experience low or negaitve growth in the value of your home - but why would you want to invest in property if you expect that?