A New Way to Tap Home Equity

Improbable as it sounds at a time when U.S. homeowners have lost billions of dollars in equity, an industry is taking shape to help them tap portions of their equity wealth without incurring traditional mortgage debt or making interest payments.

Three companies with sophisticated capital market backers -- REX, EquityKey and Grander Financial -- are offering cash to owners who agree to cut them into some of the future appreciation of their properties.

The cash typically represents a fraction of the current market value of the home and rises with the percentage of future appreciation the owner is willing to share.

For example, REX offers $70,000 cash to the owner of a $900,000 house who is willing to share 30 percent of future appreciation. That rises to $117,000 in exchange for a 50 percent share. Existing equity in the home -- and future value growth attributable to capital improvements -- are not affected. There are no interest rates or monthly payments, and the timing of the end of the agreement usually is up to the property owner, although it's generally tied to a sale.

Unlike a reverse mortgage, where interest charges accrue and are added to the debt that must eventually be repaid, all of REX's receivables are tied to the future growth -- or decline -- in the value of the real estate.

REX makes its profit or takes its loss when the house is sold or the agreement otherwise ends. At that point, the owner repays the cash he was advanced. If values remain flat, the homeowner repays that amount, without interest, out of the sales proceeds. If values go down, REX takes a loss equal to the percentage of the value change it shared in the agreement, thus reducing but not eliminating the homeowner's loss.

If values grow steadily or even boom, REX's returns have the potential to soar. The company, which says it is now writing agreements in 13 states, is backed by American International Group (AIG), the world's largest insurance company, and the Royal Bank of Scotland's Connecticut-based Greenwich Capital Markets subsidiary.

Tjarko Leifer, managing director of San Francisco-based REX, said "we see ourselves at the beginning of a much larger industry" that is focused on providing products to efficiently tap the $9 trillion of equity held by homeowners. Unlike reverse mortgages, which usually are restricted to homeowners 62 or older and often entail significant fees, REX has no minimum age and relatively modest transaction fees. Participants must have a minimum 25 percent equity stake, however -- their total mortgage debt cannot exceed 75 percent of the home's market value.

The company's typical clients, Leifer said, are "56-year-old baby boomers" with a 50 percent equity stake in their homes. They've built up equity over the years, even in the face of the housing market downturn, and "want to protect what they've already got." But they also "want to take some chips off the table" for investments, personal expenditures or additional property.

Competitor EquityKey offers similar cash payouts in exchange for shares of future appreciation, but it has an age minimum of 65. Based in San Diego, EquityKey is a subsidiary of KBC Bank, a Belgian financial institution with $450 billion in assets.

The third player in the market, Grander Financial, is headed by mortgage industry entrepreneur Anthony Hsieh, who founded and sold two major home-loan companies: LoansDirect.com, which became E-Trade Mortgage, and Home Loan Center, which merged into LendingTree. His goal with Grander, he said, is "to create a geographically diverse" portfolio of investments tied to equity movements on homes across the country that will deliver at least moderate average growth rates over the coming years, even if some regional markets go soft.

Under Grander's "My Equity Freedom" program, the owner of a $500,000 house can receive an immediate $71,429 lump-sum payment in exchange for agreeing to share 50 percent of future appreciation. The owners of a $1 million house could get $142,857 in cash for sharing half of their future appreciation.

What's in the fine print of these cash-for-appreciation deals, and why are they not for everybody? No. 1: All the programs to date are highly targeted toward specific property types. For example, REX does not allow condos, duplexes, townhouses, rental real estate, tenant-in-common dwellings, or houses that are not single-family, detached dwellings that are "typical" for their area.

No. 2: Although sponsors bend over backward to emphasize that these transactions are not "mortgage debt," the fact is that they are real estate financings that give sponsors the legal right to a portion of an owner's future market value. At the extreme, owners who take the money but do not abide by the contract agreements can face legal remedies ranging all the way to foreclosure.

Next Saturday: Pros and cons.

Kenneth R. Harney's e-mail address isKenHarney@earthlink.net.