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Bad Credit? No Savings? Unconventional Ways To Buy A Home

Some consumer groups worry that buyers may not fully grasp what they’re giving up in these agreements, especially those offered by for-profit companies.

The housing market was maddening for first-time buyers, even before the pandemic spurred a crush of sales last year.

The median U.S. sale price reached $346,900 in 2021, up almost 17 percent from the previous year and the highest on record, according to the National Association of Realtors, a trade group. And more existing homes sold last year — 6.12 million — than in any year since 2006, with nearly one in four going to all-cash buyers.

Now a number of companies ranging from billionaire-backed tech firms to nonprofit housing groups are competing in a small but quickly growing segment of the market with a shared pitch: Don’t go it alone.

A wide mix of partnership models offer potential home buyers deals that lie somewhere between ownership and renting. One or more parties (besides the mortgage company) has a stake in your home. For the person buying a home under these agreements, the end goal is the same — full ownership — but the paths vary, and can come with a number of trade-offs and risks.

The models include shared appreciation agreements, in which you borrow part of the down payment in exchange for a share of the home’s future value; rent-to-own leases, in which the tenant makes payments toward ownership; and limited-equity co-ops, a nonprofit approach for lower-income buyers with limits on the resale price of the home.

While they represent perhaps just 1 or 2 percent of the market, both private investors and nonprofits say they could soon become far more common as a means for first-time buyers to overcome their biggest obstacles: costly down payments, tight credit and bidding wars.

But some consumer groups worry that buyers may not fully grasp what they’re giving up in these partnerships, particularly with some of the private start-ups.

For buyers who can’t afford to plunk down a 20 percent down payment — the threshold at which buyers avoid costly mortgage insurance — a shared appreciation agreement might be an option.

Companies like Unison and Landed, both headquartered in San Francisco, will pay a portion of your down payment in exchange for a part of the home’s appreciation in value, either when you sell or refinance the home. If the property value has depreciated at the end of the contract, they share in the loss, reducing your total repayment. Unlike a mortgage, there is no monthly fee or fixed interest.

Dy Nguyen, a teacher, and her wife, Jen Foxworth, a police officer, both 38, bought a two-bedroom townhouse in the Mission district of San Francisco for $975,000 in 2018, with an equity contract from Landed.

The couple, who have two children and were renting a nearby one-bedroom apartment, tucked away savings for about five years and paid 10 percent of the down payment, $97,500. Landed matched their down payment, and the couple financed the rest of the purchase with an adjustable-rate loan.
Jen Foxworth and Enzo, 4, in the kitchen of their San Francisco home. Mx. Foxworth credits Landed with helping them afford a down payment in one of the most expensive markets in the country.

In exchange, the couple agreed to pay back Landed’s investment, plus 25 percent of the home value appreciation when they sell, refinance, or buy them out. The contract must be paid within 30 years.

Most home buyers will buy out the company’s stake in the property within three to seven years, and 90 percent of them have chosen to refinance, rather than sell the home, said Alex Lofton, a founder of Landed. The company has entered about 1,000 of these contracts with buyers in 300 cities, with many in the Bay Area and Denver. Landed also operates in the five boroughs of New York City, Westchester County, and parts of Long Island, among other areas.

Landed currently offers the program to people in medical, education and civil service positions — essential workers who could keep up with mortgage payments, if they could just save up for a down payment, he said. Other companies, like Unison, have no restrictions on profession.

Last year, Mx. Nguyen and Mx. Foxworth refinanced their home and used the proceeds to pay back Landed’s initial investment of $97,500, plus about $6,000, because the home’s value had risen to $1 million, based on a third-party appraisal.

“I basically got a free down-payment loan,” Mx. Nguyen said, because they bought out the company’s share before the home’s value could balloon. “You want to take 25 percent of my appreciation? Great — I just wanted to get in the game.”

But there are many variables that buyers need to consider, said Andrew G. Pizor, a lawyer with the National Consumer Law Center.

In terms of what the consumer will one day have to pay the lender, “it’s almost impossible to put a number on it,” he said, noting that the companies can seek anywhere from a few percentage points to most of the home’s appreciation, depending on the contract, and typically there is no dollar limit on their return. But since the companies operate in markets where prices are expected to continue to rise, it’s very unlikely that the homeowner will owe less than the initial amount borrowed, he said.

In the event of default, some of the companies might move to sell the property, a process in which the resident may lose many of the rights afforded to someone entering foreclosure, like the opportunity for mediation and a minimum time frame for eviction, Mr. Pizor said.

There can also be limitations on how much the homeowner can borrow against the property, and which renovations the companies deem valuable, when assessing your share of the appreciation, said Chris Mayer, a real estate professor at Columbia Business School.

“Some of this is really all about the math,” he said, adding that the calculation can vary greatly, but can be beneficial in the right circumstances. “You’ve got to read the fine print.”

Rent-to-own programs have been around for decades, with a long history of predatory practices. But a new batch of companies say they’ve corrected the industry’s worst tendencies.

One of the biggest players in the rent-to-own niche is Home Partners of America, which has purchased about 25,000 single-family homes since 2012, the company said. Last year, the investment firm Blackstone bought the company for $6 billion.

Divvy Homes, based in San Francisco, was founded in 2017, with funding from large venture capital firms like Andreessen Horowitz. In 2018, Landis, a New York-based company with a focus on lower-income renters, was founded; last year, it secured high-profile investments from Will Smith’s Dreamers VC and a company backed by Jay-Z’s Roc Nation.

Designed for buyers who may not qualify for traditional lending, the companies buy a home on the client’s behalf, and then rent it back to them for a period of time, typically two or more years, until the tenant can qualify for a mortgage and buy the investor out.

In 2020, Janese Scott, 29, who works for a telecom company and is also a part-time mortgage loan officer, had a credit score of 560, too low for most lenders.

So she entered a lease contract with Divvy, in which the company bought her a two-bedroom townhouse in Lithonia, Ga., for $129,000, and she became their tenant. She was given three years to qualify for a mortgage to buy the house back, at a premium — $138,000 if she bought after the first 18 months.

But Ms. Scott got a mortgage in just five months, and bought the home for $133,500, an early-buyer discount.

To qualify for the rent-to-own contract, she paid a 2 percent down payment to move into the home, and also paid an above-market rent of $1,520, which included $255 toward home equity.

Working with financial coaches through Divvy, Ms. Scott said she paid down her debt, which mostly came from her previous marriage. After saving about $11,000, including the cash put toward the equity, she financed the home with a conventional 30-year loan.

The mortgage for the two-story home was $850 a month, cheaper than the apartment Ms. Scott had been renting for $1,200 a month in the Atlanta area for her and her 7-year-old daughter, Gabrielle. “It feels like a dream,” she said.

But her outcome has not been typical in the industry, said Abigail Staudt, a lawyer with the Legal Aid Society of Cleveland, where several rent-to-own businesses operate.

“They think they’re investing long term in something that ends in homeownership, but it often ends up as tenancy,” she said, if the renter cannot qualify for a mortgage at the end of the contract.

Adena Hefets, a co-founder and chief executive of Divvy, said that about 47 percent of clients become homeowners at the end of the contract, while another 30 to 35 percent extend their lease. She would not say how many homes they have purchased, but said they have “helped thousands” of potential homeowners. They operate in nine states: Arizona, Colorado, Florida, Georgia, Minnesota, Missouri, Ohio, Tennessee and Texas.

In the event that a tenant does not buy the home at the end of the contract, Divvy returns the extra payments made toward the equity, minus a fee equal to 2 percent of the purchase price — a significant change from older models, where tenants could stand to lose most or all of their investment.

But unexpected hardship could eat into that nest egg — unpaid rent may be collected from the tenant’s equity payments.

Landis, a competitor, said that 80 percent of their clients become homeowners, but declined to provide sales data.

The companies emphasize free financial coaching for clients, to help them qualify for homeownership, which has rarely been the case in past models.

Still, consumer protection groups are wary from past experience.

“It’s a population that’s primed for exploitation,” said Reed Colfax, a partner at Relman Colfax, which is representing the plaintiffs in a class-action lawsuit against Rainbow Realty Group, a real estate company in Indianapolis.

In a separate case, James Hotka, the head of Rainbow Realty, said in 2013 that 70 percent of customers in their rent-to-own program “fail in the first six months.”

All rent-to-own models are not the same, but consumers need to consider negative outcomes, said Sarah Bolling Mancini, a lawyer with the National Consumer Law Center.

“The question is, if you can’t get a mortgage now,” she said, “how can you be sure you can qualify in two or three years?”

Shared equity refers to a number of lower-income homeownership models designed to keep a property affordable not just for the current owner, but also future buyers. (To the chagrin of nonprofit housing groups, the term is also used to market for-profit models, like shared appreciation contracts.)

In one version, limited-equity cooperatives, buyers purchase homes at deeply below-market prices, and pay monthly fees to maintain and improve the property. In exchange, the resale price of the unit is restricted — based on inflation or other measures. New York City has a version of this called Housing Development Fund Corporation, or H.D.F.C. co-ops.

Nery Peña, 27, a first-grade English teacher, bought a two-bedroom apartment in Washington, D.C., overlooking the Washington Monument, for $50,000 in 2021. Similar apartments nearby start at $350,000.

The building is part of the Douglass Community Land Trust, a portfolio of properties purchased by former tenants and nonprofit groups, where qualifying buyers typically make between 30 and 70 percent of the area median income. In D.C., that could mean a family of three making roughly $35,000 to $81,000 a year. The land trust also includes rental apartments.

Ms. Peña, whose family rented in the building before it converted to a co-op in the 1990s, cobbled together $15,000 from her savings and a gift from her mother, and financed another $35,000 through a credit union.

She pays $1,420 a month, including co-op fees; similar units nearby rent for twice that amount. If she decides to sell the home, the sales price will be restricted to her purchase price, $50,000, plus 3 percent for every year she stays.

“Honestly, I never thought it would be possible,” she said. “‘The majority of people who live here have known me since I was 2.”

One of the model’s biggest problems is scale. There are about 250,000 households living in shared equity units in the United States, said Tony Pickett, the chief executive of Grounded Solutions Network, a national organization in that space. That includes about 1,200 H.D.F.C. co-ops in New York City.

“That’s minuscule,” he said.

Finding lenders who will finance the loans is a challenge because the mortgages are generally smaller than those for market-rate homes. Grounded Solutions is aiming to reach 1 million households in the next 10 years, pushing for legislative changes that could make underwriting such loans easier.

The nature of limited-equity ownership also means that the buyers, often Black and Latino households, will gain less appreciation from their purchase than conventional homeowners.

But that is a trade-off that can still create more wealth for a family that would otherwise have remained renters, said Brett Theodos, a senior fellow at the Urban Institute, a nonprofit policy group.

In a 2019 study of 4,108 properties over three decades, the median wealth created for shared equity homeowners was $14,000, according to the Lincoln Institute of Land Policy, a nonprofit think tank. And nearly 60 percent of those buyers went on to purchase market-rate homes.

Nonprofit models like community land trusts can also ensure affordability for subsequent buyers.

Silvia Salazar, who works in research at the National Cancer Institute, has been a resident of another co-op in the Douglass Community Land Trust since 2001, when it was still a rental.

Since the building converted to a limited-equity co-op in 2011, she says management of the 83-unit building has improved, and units have remained affordable to a largely Latino buyer pool, many of whom work in restaurants and service jobs. Even after a surge in prices in the region fueled by the pandemic, sales at the building start at just $1,500 for a studio apartment, with monthly fees of around $1,100.

“It’s the permanent affordability that means everything,” she said about the shared equity model. “No matter how much our community gentrifies, we don’t have to worry about displacement.”