What is a Shared Appreciation Mortgage (SAM)?
A shared appreciation mortgage (SAM) is when a home buyer or borrower shares a percentage of the home’s appreciation with the lender. In exchange for this additional compensation, the lender agrees to charge an interest rate lower than the prevailing market interest rate.
- In a shared appreciation mortgage (SAM), a home buyer shares a percentage of the home’s appreciation with the lender.
- In return, the lender agrees to charge an interest rate lower than the prevailing market interest rate.
- A shared appreciation mortgage can have a phase-out clause after a specified number of years.
Understanding Shared Appreciation Mortgages
A shared appreciation mortgage (SAM) differs from a regular mortgage during the resale of the property. With a standard mortgage, the borrower pays the lender the principal owed on the loan plus interest over a specified number of years. When the borrower sells the home, the proceeds from the sale are used to pay off the mortgage if there is still a balance owed to the bank.
As an example, let’s say a homeowner financed $ 300,000, and at the end of the mortgage, the borrower has paid off the loan. Suppose the value of your home has increased from $ 300,000 to $ 360,000 or 20%. The borrower keeps the 20% profit, as well as the proceeds of the sale.
With a SAM, the borrower agrees to give a portion of the home’s appreciated value to the lender when the borrower sells the home, in addition to paying off the mortgage. The appreciated amount that is paid to the bank is called contingent interest because you are giving the lender an interest in the appreciated value of the property. Contingent interest is agreed in advance and is due to the lender when the property is sold. The bank will generally offer a lower interest rate on a SAM.
Using our example above, let’s say that the borrower signed a shared appreciation mortgage with the bank, which has a 25% contingent clause. If you recall, the home’s value appreciated from $ 300,000 to $ 360,000 for a gain in value of $ 60,000. Under SAM guidelines, the owner would pay the bank 25% or $ 15,000 of the $ 60,000 appreciation in value.
Variations in shared appreciation mortgages
Shared appreciation mortgages can have multiple built-in quotas. A SAM could include a phase-out clause whereby the percentage paid to the lender could be eliminated entirely or reduced over time. The clause encourages the owner not to sell the property and return the mortgage loan. With some clauses, the contingent interest could be eliminated entirely, so the owner owes nothing at the time of sale.
Another variation of the phase-out clause may stipulate that the borrower pays a percentage of the home price appreciation only if the home is sold within the first few years. A typical phase-out term would stipulate that 25% of the appreciation in value will be paid to the lender if the borrower sells within five years.
The ideal situation for the borrower would be to keep the house for five years and if there is an increase in value, sell it after the fifth year, as the borrower would keep all the appreciation in price. However, there may be risks to the borrower. If a borrower does not sell the home and holds onto the property until the mortgage is final, they may still have to pay their share of the appraised value to the bank, if there is no write-off clause.
On the other hand, SAMs help lenders recoup lost interest if a borrower sells the property before paying off the mortgage. Banks make money on the interest charged on a home loan, and if a buyer sells the home, the bank loses future interest payments. A shared appreciation mortgage helps offset some of the loss of interest on the loan if the property is sold.
Shared appreciation mortgages in practice
Shared appreciation mortgages are sometimes used with real estate investors and home buffs. Flippers are those investors who buy and renovate a property in the hope of making a profit. SAMs for fins tend to perform best in a booming real estate market. However, this type of home loan often has a time limit for repayment of the balance. Properties that are not sold before the deadline generally have the remaining balance refinanced at the prevailing market exchange rate.
Another use of a shared appreciation mortgage is when a home loan exceeds the value of the home, or is under water. An underwater mortgage can occur if the housing market declined after the home was purchased. The bank may offer a loan modification to reduce the mortgage debt to match the lower market value of the home. In exchange, the bank could request that the loan be modified to a shared appreciation mortgage.
However, there can be various tax problems with SAMs, so lenders may not receive the same tax treatment for the appreciated profit as borrowers. As a result, it is important to contact a tax advisor or accountant to help you determine if a shared appreciation mortgage is worth looking for.