27 Oct Home Equity Loan vs Mortgage: Two Low-hanging Fruits to Finance your Homeownership in Nigeria
Mortgage and home equity are two terms that anyone who pays so much as a passive interest in real estate will have come across. They are two debt instruments commonly utilized by homeowners globally, and if employed judiciously, could form the bedrock of a successful real estate investment journey.
Similar to other forms of financial decisions, mortgages and home equity loans have their upsides and downsides, making it crucial for investors to possess a solid grasp of what they entail before committing to either. Accordingly, we have put together concise explanations about both to furnish you with sufficient knowledge before you meet with a financial advisor.
As stated in a previous blogpost, mortgage is a lump sum lent by a financial institution to individuals to fund the purchase of a home or to construct one from start. Employing mortgage, the borrower (individual) pledges the asset to the lender (buyer) over a period while making a monthly or annual equity contribution (repayment). Should the borrower default in their financial obligation—the amount borrowed plus interest—to the lender, the lender reserves the right to foreclose (seize) such property. In the unfortunate event of a foreclosure, the property is usually sold by the financial institution to get back their capital.
In Nigeria, mortgage loans are usually offered by Primary Mortgage Institutions (PMIs), Commercial Banks, and the Federal Mortgage Bank of Nigeria (FMBN). All three institutions offer substantial amounts to eligible customers with different variations coming in form of their loan tenors and interest rates.
PMIs and banks often cap their repayment tenor at 20years, subject to the national retirement age, and these loans are available to individuals with verifiable monthly income. Accessible loan amounts are usually hinged on the applicant’s income and ability to make a downpayment of up to 30% of the prospective property. These institutions also have more flexible loan options such as joint mortgage where married couples can cooperatively apply for loans and, therefore, the burden of repayment is significantly reduced on both as opposed to it being the sole responsibility of one person. On the flipside, the interest rates of these institutions are usually high between 12 and 18 per cent. Also, interest is not always offered at a fixed rate with more institutions gravitating towards adjustable-rate mortgage (variable-rate).
FMBN, on the other hand, offers a once-in-a-lifetime loan of up to ₦15million to contributors to the National Housing Fund (NHF). Under the extant NHF law, Nigerians earning up to three thousand naira monthly are required to contribute 2.5% of their basic monthly allowance to the fund, thereby making them eligible to access the loan. With a repayment tenor of up to 25 years, subject to the retirement age of 60, and a fixed 6% rate, NHF provides a straightforward and somewhat less strenuous path to homeownership for contributors. Individuals can only be registered into the scheme through an employer, who obtains an NHF 1 form from FMBN, and in turn, issues an NHF 2 form to the employee. Provisions are also made for individuals in self-employment to avoid disenfranchisement. In addition, a minimum contribution of 6 months is mandatory to successfully apply for the loan.
On the downside, the unrepeatable nature of the loan means that any individual who receives less than the maximum of ₦15million due to low income at the time cannot access the fund in the event of a positive change of fortunes. Furthermore, the inability of couples and business partners to jointly apply for mortgage is also a major sticking point.
Home Equity Loan
Also known as ‘second mortgage”, home equity is a form of loan that is collected against the actual equity of the real estate asset. It bears similarities to mortgage but the striking difference between the two is that whereas mortgage is granted to make a purchase, home equity loans, on the other hand, are only accessible to individuals who already own homes. So, if you want to purchase a home, you will apply for a mortgage, but if you already own a home but require funds for other expenses then you can use it as collateral and apply for a home equity loan.
One of the plus sides of home equity loans is the fact that they are also accessible to individuals who are yet to complete their initial mortgage repayment, hence the second mortgage alias. In this case, the value of the house is juxtaposed with the amount left of your mortgage which then forms your equity and the loan amount accessible to you. What this means is that if your house is currently valued at ₦20,000,000 and you have a mortgage balance left of ₦12,000,000, your home equity is ₦8,000,000 (40%). Lenders often grant as much as 80% of the home equity in loan, so using the above example that would be ₦6,400,000. Home equity loans can also be accessed on fully-owned homes as long as their market value can be ascertained.
Home equity loans are generally offered in Nigeria by PMIs and are also straightforward to obtain with the right documentation. With an unencumbered title, verifiable source of monthly income to facilitate repayment, purchase of a mortgage redemption forms, and incurment of other closing charges (appraisal fee, origination fee etc), you can easily convert the equity on your home to liquidity for other investments. Home equity loans are especially ideal when making downpayments for purchase of another property or to fund major renovation projects in the house.
There are a number of disadvantages to home equity loans and atop the list is the ever-present possibility that the borrower could be homeless in the event of default since the home is the collateral. Another risk factor is that if the loan is obtained on a property still on mortgage, the burden of repayment doubles on the borrower since they will be servicing the initial mortgage and the home equity loan simultaneously.
Any borrower interested in either of these instruments must conduct extensive research before deciding because what may appear as obvious gains in the short-term could become awry long-term. Also, home equity loans should be taken for expenses that could yield value rather than on fancy items or vacations. And if you invest in Green Park Homes, we will guarantee you access to 6% fixed-rate mortgage of up to ₦15,000,000 to start or continue your homeownership journey.