What Is Sweat Equity in Real Estate?

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Sweat equity allows you to add value to a home through your own labor (like repairs or renovations) — this work can then be used to fully or partially replace a cash down payment. But not all mortgage loan programs accept sweat equity, and the ones that do can differ on exactly how they convert its worth to dollars.

Sweat equity in real estate can make homeownership more affordable, but it’s important to understand how it works, how to calculate it and the potential benefits and risks involved.

Key takeaways

Sweat equity lets homebuyers use the value of their own labor — like home repairs or improvements — in place of a cash down payment.
Both conventional and FHA loans allow sweat equity as a down payment, provided the work is well-documented and improves the home’s value.
Using sweat equity requires proof of completed work, such as inspection reports and receipts for materials, to ensure the labor meets lender requirements.

How sweat equity works

Sweat equity can be a valuable tool for both homebuyers and real estate investors. Whether you’re using it to reduce your down payment or maximize profits from a fix-and-flip project, here’s how the process works:

Get preapproved. Apply for a mortgage preapproval for a loan program that allows sweat equity as a down payment. Let your loan officer know you plan to use your labor toward the purchase.
Find and evaluate a property. Look for as-is properties, fixer-uppers or any home that needs reasonable repairs.
Establish the purchase price and repairs. Count on your real estate agent for help with negotiating a home price. You’ll need to establish what the house is worth as-is, as well as the value of the repairs. The “as-completed” home price is the property’s estimated market value after all planned repairs, renovations or improvements have been completed, rather than its current condition.
Get an appraisal. A property appraiser will validate the price of the materials and labor that you plan to do, and confirm or adjust the as-completed value.
Complete the work. There are no specific requirements for this process, but you’ll need to complete the work you’ve agreed to in the purchase contract. Keep all receipts for materials and document your completed labor.
Get confirmation. An appraiser (or another professional) will review your work to confirm its monetary value and get final lender approval for your down payment.
Close on your mortgage. Once the loan amount and your sweat equity are finalized, you’ll provide any remaining documentation necessary for the approval and close the loan.

How to calculate sweat equity

It’s important to understand that there’s no universally accepted formula for converting labor time to a dollar amount of sweat equity. Each lender has the right to calculate sweat equity however they choose.

That said, if you want to calculate sweat equity for purposes outside of a loan program — for instance, to track it as a part of your real estate investing portfolio — there is a set formula:

Sweat equity = (Home’s current market value – Original purchase price) – The cost of materials

Let’s say you purchase a fixer-upper home for $150,000. You replace the kitchen cabinets, upgrade the bathroom and perform other repairs. The materials cost you $20,000. The labor is free since you did everything yourself. After a year, you sell the home for $200,000, representing a $50,000 gain. You’ll still have to subtract the costs of the materials, however, making your sweat equity $30,000 ($50,000 – $20,000).

Pros and cons of using sweat equity in real estate

Pros

You can close on a home with less cash. Using sweat equity to cover your down payment means you can complete a home purchase with less cash needed.
You can save money buying a fixer-upper. Properties in need of repairs are typically less expensive than move-in-ready homes.
You can have an emotional payoff. It can be fulfilling to live in a space you’ve put effort into designing and changing to suit you and your family’s needs.
You can financially benefit. By doing the repair work yourself, you can potentially save money on labor and increase your home’s value, leading to a higher profit when you sell.
More income from tenants or guests. If you’re renting out units in a multifamily property or hosting guests through Airbnb, you can charge more once the upgrades are complete.

Cons

Time and financial investment. Not everyone has the skills or tools to do landscaping, cabinetry, woodworking, masonry and other repair work. You may need to spend time studying and practicing. You may also need to purchase safety equipment and buy or rent tools for the job.
Mistakes can cost you. If you damage your home during a DIY project, your homeowners insurance may not cover the repairs, while professionals are typically licensed and insured.
Results may look unprofessional. DIY work often lacks the polish of professional craftsmanship. Subpar results could reduce your home’s value and potentially lead to costly repairs or replacements if you need to hire someone to fix your work.

Programs that allow sweat equity as your down payment

Here’s a look at three different programs that allow you to use sweat equity for your down payment.

FHA loans

FHA loan programs, including the FHA 203(k) loan program, allow you to include sweat equity as a source of funds for your down payment. It can be in the form of either construction materials or labor.

Either way, you’ll have to document its value via a third-party appraiser or cost estimating service.

How to qualify:

Credit score as low as 500, provided you can make at least a 10% down payment
Down payment as low as 3.5% if you have a 580 credit score or higher
Debt-to-income (DTI) ratio as high as 43%, though exceptions are possible if your DTI is higher

Fannie Mae HomeReady®

HomeReady is designed to assist low-income borrowers by offering mortgages with more affordable mortgage insurance, even when borrowers can’t make a huge down payment. The down payment may be fully covered by the sweat equity.

In some cases, you can also count the labor of others (like your friends, family or neighbors) and any construction materials you paid for.

How to qualify:

Confirm that you don’t earn more than 80% of your area median income (AMI)
Sign up with a Fannie-Mae-approved nonprofit
Accumulate sweat equity either through your own labor or volunteer labor
Qualifying income can include rental unit or boarder income
A minimum 620 credit score is typically required
The property must be your primary residence

Freddie Mac Home Possible® loan

The Freddie Mac Home Possible® program allows borrowers to use sweat equity to cover their down payment and closing costs. The program doesn’t limit the amount of sweat equity you can apply to your down payment and closing costs, as long as it’s recorded in the purchase contract and home appraisal. You can use the Home Possible® income and property eligibility tool to determine whether you qualify for a mortgage based on your income and the location of the home you’re interested in.

How to qualify:

Your income must be at or below 80% of the AMI for the property’s location
A minimum 3% down payment, and sweat equity can be used to cover all or part of this amount
A minimum 660 credit score is typically required
The property must be your primary residence

Habitat for Humanity

Habitat for Humanity works in communities across the U.S. and requires housing applicants to contribute sweat equity. To qualify, your household income can’t exceed 60% of your area median income, and a loan committee will evaluate your finances to ensure you can afford the monthly mortgage payment. Find out if this program is available where you live.

Frequently asked questions

Whether sweat equity is a good idea will depend on your specific situation and goals. If you have the time and skills to handle renovations yourself, sweat equity can be a great way to increase your home’s value and save on labor costs. On the other hand, if you’re short on cash and time, you may want to consider other ways to fund home improvements, including a cash-out refinance.

The amount you invest in sweat equity can be added to your home’s cost basis, which may reduce your capital gains taxes when you sell the home. Capital improvements, including renovations that boost your home’s value or prolong its use, can help reduce your tax liability.

Thinking about renovating your home? Learn more about tax-deductible home improvements.

As a real estate investor, it’s important to have a written agreement that details the sweat equity you’re contributing to a deal and what you’ll get in return. One common approach is to structure the agreement so that the person providing the sweat equity receives a proportional ownership stake in the property based on its as-completed value.

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