Leveraging shared equity programs to boost your down payment
Dreaming of owning a home but finding saving enough for the down payment to be daunting? Here’s a bit of good news: you may be able to make your homeownership fantasy a reality sooner, with the help of shared equity programs. Here are some pros and cons of this approach to give you an idea of whether it’s right for you.
The down payment challenge
The down payment can be a major roadblock for many aspiring homeowners, especially in Toronto and the GTA. Normally you need to save between 5% to 20% of the home’s purchase price. Sometimes, even if you have enough income to afford the mortgage on your dream home, your down payment is too small to buy the home you’re looking at. A little-known option might be the answer to this problem: shared equity programs. Shared equity programs offer a unique solution to help increase your down payment.
What is a shared equity program?
Shared equity programs are initiatives provided by companies or organizations that give you money toward your down payment. Obviously they’re not doing this for free; in exchange for helping with the down payment, you agree to give them a portion of your future profits on the home, when you sell it or refinance it. The formula for divvying up those profits is calculated based on the proportion of the down payment that they provided versus the amount provided by you.
How it works
Let’s say you and your partner decide to buy a $950,000 home. You have $50,000 saved and want to use that for your down payment. You have a few options:
- Wait to save up the required $70,000 minimum down payment (you need to have at least 5% down for the first $500,000 (that is, $25,000) + 10% down for the remaining $450,000 ($45,000) of the purchase price), and get a default insured mortgage. Default insurance is provided by companies such as CMHC, Sagen and Canada Guaranty.
- Borrow the remaining $20,000 using a loan or line of credit, and get a default insured mortgage at a higher premium rate (it’s higher because part of your down payment is borrowed).
- Use a shared equity program to boost your down payment from $50,000 to $190,000, which is 20% down on the $950,000 home. The shared equity company you’re working with provides $140,000 of your down payment, resulting in a smaller mortgage for you, as well as saving you from paying the default insurance premium. When you sell or refinance your home down the road, you pay out the original $140,000 plus a corresponding portion of the appreciation in your home’s value.
One thing to note: In the Toronto area, you may be looking at homes that are over the $999,999 maximum purchase price that default insurance will cover. In that case, you *must* have at least 20% down, because you won’t have access to default insurance at all.
Benefits of shared equity programs to boost your down payment
Reduced financial strain
Shared equity programs can significantly reduce the financial burden of coming up with a large down payment on your own. With their assistance, you can afford to take the first step on the homeownership ladder.
Lower monthly mortgage expenses
Your shared equity partner doesn’t require monthly payments like a traditional loan. This can reduce your monthly housing costs, making homeownership more affordable on a day-to-day basis.
Flexibility in repayment
Many shared equity programs allow you to repay the shared equity investment when you decide to sell your home, refinance, or at a predetermined future date. This flexibility ensures you’re not rushed to pay back the investment, and similarly, allows you to pay off the amount owed to the shared equity company on your own timetable.
Support for growing your equity
When you partner with a shared equity company, they share in the appreciation of your property’s value over time. Yes, this means that as your home’s value increases, the shared equity partner will receive a portion of the gain upon sale, but it also means you’re building equity on which you might have missed out without their support.
Challenges to consider in using shared equity programs
As noted above, by participating in a shared equity program, you’re agreeing to share the appreciation in your home’s value. Ideally, you should aim to pay off the shared equity as soon as you can, because the longer you wait, the more your home is likely to increase in value. So make sure to review your financial goals and expectations in light of making this payout.
Eligibility and commitment
Different companies have varying eligibility criteria – both for you and for the property and its location – and commitment periods. For example, typically the home must be your own primary residence, not a rental property. As well, you might not be able to buy with friends or siblings, only a partner or spouse. Ensure you fully understand the terms of the shared equity arrangement.
Fewer lender options
Not all mortgage lenders allow shared equity positions. As such, you may be restricted to the same lender or lenders until you can pay out the shared equity company.
Restrictions on renovations and upgrades
Shared equity companies may require you to get major renovations approved by them, before you do them. This can benefit you, since you may be able to get credit for the renovation so that it gets paid back to you before you split the remaining profits with the shared equity company. Doing regular maintenance and minor improvements don’t apply here. But you do need to thoroughly understand the agreement before you proceed.
If you decide to use a shared equity solution, you will want to have a clear game plan to address how and when you will pay out the shared equity company’s investment.
Seek professional guidance
Shared equity programs can offer a path to homeownership by reducing the down payment burden. To navigate these opportunities successfully, it’s essential to work with an experienced mortgage broker who can guide you through the mortgage process and help you decide if a shared equity program is right for your needs.
Let me know if you would like to discuss your home ownership plans!
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