Participation Loan
 

In a  participation loan or shared equity loan the buyer enters into a form of partnership with an investor who provides cash for the sale. The investor may be the seller, a bank or any private investor. Instead of charging interest, the investor in a participation plan receives a percentage of the equity. Different investors will have varying requirements as to the percentage of equity to be shared, and as to the method of repayment of the investment. These issues are between the lender and the buyer.

An investor may simply put up cash for the down payment, or the primary lender may reduce the interest rate in exchange for share of the equity.

How will the equity be calculated? Equity is the difference between the value of the property and the outstanding indebtedness secured by the property.  For the purpose of participation loan, the buyer and the investor must agree as to how the property is to be valued. Any method acceptable by both parties may be used. The value of the property at the time of purchase may be periodically adjusted according to an agreed upon index, or the parties may choose a particular appraiser whose opinion if value they will accept.

The parties should also determine whether the participation loan is to be considered part of the indebtedness on the property. A critical factor here is whether the participation loan is secured by a lien against the property. If it is, the it reduces the equity:

Example:

$110,000  value of property
-$72,000  balance on a participation loan

$38,000 equity to be shared.

The investor may cash out his or her share of equity and a pre-agreed tome, for example 5 years or else at the time the property is sold. If an investor is cashed out before the property is sold, the buyer will most likely have to refinance at that time.

When it comes to improvement on a property an agreement should be made to specify whether the investor will share any changes in equity resulting  from improvements made on the property. If the buyer invests $5,000 if her own funds in an addition that adds up to $7,000 to the value of the property, does the investor get a share of the $2,000 equity created by the addition?

When it comes to taxes and insurance usually the buyer will pay the property taxes and insurance.