The Next Home Equity Surge

Just when you thought consumer home equity induced spending was dead due to a slowing market and tightened credit standards, a new product promises to put some juice into it. REX & Co, backed by a subsidiary of American International Group, Inc. (AIG), has a new product that lets homeowners tap the value of their homes without taking out a loan.

The novel product gives homeowners cash for their equity in return for a portion of the proceeds from the eventual sale of the home. For instance, a homeowner who has a $500,000 home can extract $100,000 of that by giving REX 50% of the change in the home value. So, if the home is sold in five years for $750,000, REX receives half the increase, or, $125,000. If it sells for $600,000, they receive $50,000.

It is a break from the traditional debt based equity extraction option homeowners currently have and is available in California, New Jersey, Virginia, Florida, Washington, Colorado, New York and North Carolina. Founder Thomas Spoonholtz expects it to be available nationwide within a couple of years.

He aims to have it sold through mortgage brokers with up to a 2% of proceeds fee and homeowners will have to commit to hold the home for a set number of years or face "early exit" fees or 5% to 25%. This approach will appeal to retirees looking to maximize the extraction of equity from their homes without incurring interest payments. Younger borrowers will like the fact that their debt ratios will not increase and the effect on their credit scores will be non existent. It will also allow for higher borrowing limits, since the home will be held for a minimum time frame, increasing the equity available.

What this product essentially does is allow current homeowners to borrow "future equity" in their homes and not pay interest charges.

Comments

[scott146:]

What this product amounts to is the equivalent of a zero coupon bond like those which became popular on Wall Street years ago. The obvious risk is if the homeowner borrows a specific sum based on their forecast of the appreciation in their home and the home fails to appreciate enough to cover that borrowing then the borrower will be upside down at the note's due date. Also, I haven't bothered to do the effective interest rate calculation for some scenarios using this product, but it is likely to be expensive. It seems to me like another way for unsophisticated borrowers to hang themselves.

It is a creative new financing option which if used properly is a nice addition to the range of credit options available to consumers; but at this point it is just an attempt to keep the housing lending market afloat.

2007 May 17 09:57 AM

[Luck-o-the-...:]

This seems to have the feel of a reverse mortgage to me without the age requirements. It's tough to really get a feel for the product though, because the information here is very basic (but a well written article, please do not think I am criticizing you). You really have to get into the details to see if this product has any solid place in the lending community.

2007 May 17 10:50 AM

[Chris Daly:]

This product is basically a reverse mortgage with no age limit requirements. If used properly, it can be a good deal for the homeowner. Then again, its not for everyone and certainly not for every location. Some locations appreciate much faster than others, and makes this a good product for those areas.

My caution, however, is that this product could be an issue for both the borrower and the lender should the property values head significantly lower over the years. Would the lender call the loan due if the combined loan amount (1st mortgage and new Equity loan) is more than the property value?

Where can we get more information on this program?

2007 May 17 12:37 PM

[Michael Riley:]

Th key to this is determining the beginning "value". I am fairly certain that AIG will have a conservative valuation as to current value to help protect their future return profile.Appraisals will be very important.

2007 May 17 12:50 PM

[jeremy daw:]

ridiculous, like the federal deficit, dollar going down anyone?

2007 May 17 02:31 PM

[Luck-o-the-...:]

They do have a website. Things that I noticed were that the typical loan maximum is 13% of the value of the house, and the total debt (including this loan) would not exceed 80% (though that does not mean that it cannot exceed that). Furthermore, they require a minimum FICO of 680, so they want A/A- paper or higher. In addition to this, they have this "equation" of an Advance along with a remainder payment when you sell the house. This "remainder" payment is where they draw in their prepayment penalty (if there is one), which from the looks was similar to a declining CDSC (for basic understanding). It goes 25% year 1, 20% year 2, 15% year 3, 10% year 4, and 5% year 5. Basically, if you sell or default before the end of the specified year, your "remainder" payout is less, and that amount is equal to the percentage stated previously times the "advance" payment (loan amount). This means that if you borrow $100,000 and sell the house in less than 12 months and were working with a 50/50 price appreciation split and the house did not increase, then you would pay them back the $100K PLUS another 25K for a prepayment penalty. Also, the borrower pays closing costs at the beginning. So for homeowners in the 200-300K range, it really doesn't look like you could get more than 25 to 35K. In order to achieve a 100K loan, I am guessng you need a property in the 750K to 1M range, so this products seems to reach for the middle and upper classes.
If you hold the property for the 5 years, and sell for less than what it was worth 5 years previously, then REX participates in the LOSS, so they may actually get back less or even nothing. Here is a link to the website (freq asked questions)
www.rex-inc.com/faqs.p...

I disagree that you would want to take this loan if you are in an area that is appreciating rapidly. In fact, I think you would want just the opposite. You would want to employ this in an area that is not appreciating, then you can use the loan to invest in something that will appreciate. If you have a 500K and borrow 50K, then the house moves to 700K over the next 5 years (because you are in an area that appreciates rapidly), and you have a 50/50 split, then you will not only payback the 50K, but another 100K on top of that. In effect, you will pay back in "interest" TWO times what you borrowed in just 5 years. You would have to take that 50K and net about 14.5% EACH year over that 5 year period just to breakeven. Again, this example may be extreme, but if we are talking about an area that appreciates rapidly, this example shows why you WOULD NOT want this loan as a consumer. If I were REX, I would make those loans all day in highly appreciable areas to "A" credit paper with an LTV at 80% or below. Seems likes a no brainer to me. The risk does come into play...what if people don't move. The notes carry a max of a 50 YEAR term, with two states being less (30 and 40 yr respectively). How will REX make money if no one is selling, unless they issue something similar to a zero coupon backed by the properties. OK, i've rambled on long enough...

2007 May 17 04:11 PM

[Chris Daly:]

Timothy-you have made some excellent points in your post. After sending my email, I went to the REX website and did a lot more reading especially in the FAQ area. And, you are absolutely correct, this product is geared towards homes [owners] in the range you mentioned, and would be great for homes in lower appreciating areas. I do believe, we will be in a real estate market of 3 - 4% appreciation over the coming years, which could make this attractive for some. If you are going to use the money to purchase high return investments, then this is a good product.

Thanks for your feedback.

2007 May 17 07:25 PM

[joyofyoga:]

Unfortunately, most people do not use equity they pull out of their home to invest in high return investments; in fact they often invest in nothing and squander the money away. Otherwise, all the equity that has been pulled out would not have resulted in desperate borrowers resulting in rampant foreclosures.

2007 May 17 11:51 PM

[Elliott:]

At the Rex website: On a $750,000 home, you get $80,000 today and Rex holds a lien for $300,000. That means that when the house is sold 5 years or more in the future, Rex owes you the remaining $220,000 balance plus 50% of the appreciation.

What assurance is there that Rex will be still be around then to pay up? What if Rex goes bankrupt?

2007 May 18 12:51 AM

[Luck-o-the-...:]

The way I see it is that Rex uses that $300,000 number as a way to get past a prepayment penalty. Rex holds a $300,000 lien ($80K advance payment and $220K due later); however, they would still have a note payable of $220,000 (to the borrower), so them going bankrupt would not matter. The lien is offset by the note payable; therefore if Rex were to be liquidated you cannot through liabilities out the window and only keep assets. They will be offset first, and if Rex were liquidated (went bankrupt) then some other creditor would be there to get the $80K.

2007 May 19 11:27 PM