New cash idea for homeowners

Despite the counsel to "diversify, diversify, diversify," many Americans have most of their financial eggs in one basket: their homes. Juggling eggs just got easier for some of them, thanks to the San Francisco-based company REX & Co.

REX allows homeowners to convert home equity to cash, much like a home-equity loan. But this is no loan; REX charges no monthly payment, nor any interest. Instead, when the home is sold, REX takes a portion of the home's appreciation.

For a house valued at $500,000, REX might offer a lump sum of $70,000 in exchange for half the home's change in value. If the house eventually sells for $600,000, REX gets $120,000, the original 70K plus half the price gain. If the home sells for only $400,000, REX shares in the loss, getting just $20,000 back.

Real estate analysts say the idea shows promise as a way for homeowners to hedge against real estate volatility. But they also warn that it's a potentially more difficult financial tool for consumers to gauge, especially given its newness on the market.

"This is not a bad idea. This is a kind of instrument that helps complete the market," says Susan Wachter, a professor at the University of Pennsylvania's Wharton School. A large problem in the housing market, she says, is that many homeowners have most of their money tied up in that one investment. Rex and Co.'s agreement allows them to take some of that money and invest it elsewhere.

REX agreements aren't available to everyone. The company operates in only nine states (see rexandco.com). Homes in the top or bottom tenths of their local market won't be considered. Homeowners need credit scores of 680 or higher, and cannot have more than 75 percent of their home mortgaged.

To decide between a REX or a home-equity line of credit, homeowners might want to call on some expert help unless they are prepared to dig out some No. 2 pencils, fire up their Casios, and do some research on historic housing price trends at ofheo.gov.

It would be reasonable for a homeowner to pay slightly more for a REX agreement than a home-equity loan because REX offers some protection against a dip in prices, says Thomas Davidoff, professor at the Haas School of Business at the University of California, Berkeley.

But caveat emptor, warned several analysts, when it comes to the "neutrality" of third-party appraisers as well as fees charged by REX if the homeowner sells in less than five years.

Since beginning to offer these agreements several months ago, REX says it has received about 1,000 requests for proposals from interested homeowners.

"Eighty percent of boomers' net worth is tied up in their house," says Thomas Sponholtz, CEO of REX. "If you believe it's a declining market, it may make sense to take some of the chips off the table."

REX gives them a new way to do that without having to take on monthly payments into the retirement years. And for many baby boomers, selling is even less appealing. "Now they can stay in their home and still finance their life," says Mr. Sponholtz. How customers use the lump sum is their business, whether it's to switch money over to retirement annuities, give an "early inheritance" by paying for a child's college, or buy a yacht.

Agreement is an alternative to loans

"You have earned the equity in your home," says Sponholtz. "Why pay a lender to borrow your own money?"

Of course, given Americans' poor record on saving, REX could become one more tool for ill-advised borrowing from the future to spend now.

But as Dr. Davidoff points out, it's already easy to tap into home equity. "I think they have home-equity line machines in casinos almost, at this point," he jokes.

And at least with REX, the profligate wouldn't face the same risk of defaulting on monthly loan payments, says Mark Levine, a real estate professor at the University of Denver.

At the moment, REX isn't offering deals to home buyers, a move that down the line could put some inflationary pressure on home prices, say analysts. Sponholtz says his firm might do so in 12 to 18 months, but emphasizes that it would not be in the subprime market.

REX is a private company; its investors include the insurer AIG and the Bank of Scotland. Investors could expect significant tax savings if the IRS considers the agreements capital gains not loans, says Dr. Levine. The concept is not entirely novel. Something similar – shared appreciation mortgages – were once fairly common.

"What's attractive about this particular form of a shared-appreciation mortgage is that there is an up-front transfer of cash, so that the burden of it all working out is more on the company than on the homeowner. Often that is reversed," says Dr. Wachter.

REX touts itself as the first company to bring its equity sharing model to scale. Wachter thinks it won't be alone: "In more volatile housing markets, these kinds of vehicles are in various stage of development."

As with new high-tech gadgets, consumers would be wise to let others test REX's model, argues Errold Moody Jr., a financial planner based in San Leandro, Calif. When reverse mortgages were first introduced, he says, it took several years to work out the kinks.

"With risks, you always let the other guy go first, find out if he can swim from Alcatraz and make it," says Dr. Moody.