Win-Win in Silicon Valley Single Family Home Opportunity?

[David Fligor]

Hi there,

I'd be interested in the collective wisdom of the Bigger Pockets community on anything that might stand in the way of solving a problem for house rich/cash poor homeowners while giving investors a leveraged return on hot real estate markets. 

For homeowners in hot markets like Silicon Valley who bought either long ago or in 2009-10, they may be sitting on paper gains that can be in the millions of dollars. We might have hypothetically $2.7 million in home equity and an LTV on the only mortgage of 32%. Sure, we could tap it by refinancing or taking out a HELOC, but why not sell a relatively small equity interest (or something like equity) to an investor?

So the question is what are the flaws in the following deal for the owner of a principal residence and the real estate investor? If there are flaws, would there be ways to modify it to make a deal make sense? Assume an accredited investor and no securities law issues for simplicity.

1) Homeowner pays for a legitimate appraisal.

2) Homeowner grants the right to Investor to receive 10% of any appreciation above the appraised value when and if the house is sold.

3) In exchange, Investor pays the homeowner an amount equal to 10% of the appraised value, with 20% down and the rest on an interest-only promissory note held by Homeowner.

4) The note bears interest at Prime + 0% and does not have any origination fees or prepayment penalties.

5) The investor gets credit for 10% of the eventual net proceeds from sale with the net being 10% of net sales proceeds less the remaining balance of the loan.

6) If the investor defaults on the loan and fails to cure the default, the claim on the equity is forfeited.

7) The homeowner remains fully responsible for costs of maintenance, insurance and taxes, but this is offset somewhat by the interest on the loan and the cash received upfront.

8) Presumably if there is a gain beyond the homeowner's basis, there is no tax for now unless the proceeds exceed $250k for an individual or $500k for a couple. Upon a sale, the amounts received from this deal would eat into the exclusion.

9) The appreciation rights of the investor and the note could be sold off to other investors if either party got impatient.

10) A maximum LTV on mortgages on the property in the range of 60% could be established to reduce the likelihood that the seller gets behind and does a short sale that wipes out the investor.

11) If this arrangement might cause a problem for the homeowner when refinancing or taking out a HELOC, the investor could agree that the investor's interest is subordinated.

Benefits: The homeowner's net worth is less concentrated in Silicon Valley single family home performance, and the investor gets a leveraged return on an asset that has potential to appreciate at faster than the rate of inflation. If the homeowner has 90% of the appreciation potential, there is no risk that they will not have incentives to maintain the property and maximize value.

Why is this not a thing? This is not an offer, just a request for help in structuring a potential offer to accredited investors.

Thanks.

David