Equity release is a means of raising a tax-free cash lump sum, additional income, or a combination of the two, using the money tied up in your property. In order to qualify, you must be a UK homeowner over 55 years of age with a property worth £70,000 or more.
According to the Equity Release Council (ERC) autumn 2016 report, it’s an increasingly popular option with older people, particularly in cities like London where house prices are high.
Despite the rise in property values and a lifetime of hard work, careful planning and investment, many people find themselves in a property rich, cash poor paradox. Often reluctant to downsize from the family home or to endure the disruption of moving house, many have access to only basic pensions, and they struggle to meet their household bills.
In 2015, Age Partnership found that UK homeowners are sitting on property worth £1.2 trillion, and this figure (that’s £12,000 million) will continue to rise as the population ages.
What is equity?
‘Equity’ is the value of your home minus any mortgage you owe. Due to trends in house prices, the value of your property is likely to be higher today than it was when you bought. This means that as you approach retirement you could have more money tied up in your home than you have in savings, or than you can expect from your pension.
Why you might consider equity release
There are all sorts of circumstances that can lead you to consider an equity release plan. Sometimes there are unexpected expenses to find, or major life choices to make. For many people, the incentive is peace of mind and the opportunity to fully embrace their retirement.
You might need to:
- Pay for care
- Stay in the family home
- Help out family members – for example, you might want to support your granddaughter with her university fees
- Clear an outstanding mortgage on your property
- Switch to an equity release plan with lower interest rates
- Pay for home improvements such as a new kitchen
- Make a one-off large purchase such as a new car
- Go on holiday
- Pay off loans or credit cards
- Enjoy a more comfortable, worry-free retirement
Types of equity release
There are two main types of equity release scheme. The first type is a lifetime mortgage, which is a mortgage that is secured against the value of your home. The second is called a home reversion plan, where you sell all or part of your property to a reversion company in exchange for cash. Most of the equity release plans sold in the UK are lifetime mortgage plans.
Good news: The ERC’s report is encouraging about today’s options, stating that due to growing competition in the equity release market lifetime mortgage rates fell further than any other category of mortgage product in the first half of 2016, with “an increasing range of providers offering rates below 5%.”
A Lump Sum Lifetime Mortgage
A lifetime mortgage enables you to release a cash lump sum from the value of your property whilst retaining 100% ownership of your home. There are no monthly repayments, instead, the amount released plus any interest accrued is repaid from the sale of your property when you either pass away or move into long-term care. You should still be able to benefit if the value of your home increases. This type of mortgage is suitable if you have a specific need for a particular cash amount. Many lenders will take your health and lifestyle into consideration, which may mean that you can borrow more. Lifetime mortgages are subject to compound interest, so each year you will pay interest on the original amount released plus any interest accrued year-on-year.
Drawdown Lifetime Mortgage
Similar to the standard lifetime mortgage, the drawdown lifetime mortgage offers more flexibility on how you receive your money. Instead of taking a one-off lump sum, you can choose to release your funds over time. You will receive an initial advance, and an approved ‘cash facility’ that you can draw on as-and-when you need to.
Since you will only accrue interest on the money you have actually borrowed, the interest that builds up over time is likely to be less than with the standard lifetime mortgage. This can therefore be a cost-effective way to release equity.
However, there are some downsides when compared with a lump-sum lifetime mortgage:
- Generally, the maximum amount you can borrow is slightly less than it would be with a lump sum lifetime mortgage
- Each time you borrow from your cash facility, a new interest rate could be applied to the amount you are borrowing. This will generally be based on the current interest rate, and means the cost of future borrowing could be higher or lower than the rate you agreed when taking out the mortgage
- There may be admin charges each time you withdraw money from your cash facility
- There may be limits on the maximum amount you can have in your cash facility, relative to the original mortgage
Interest-Only/Interest Serviced Lifetime Mortgage
With an interest-only lifetime mortgage, it’s possible to make repayments, either in full or on an informal basis, thereby reducing the effect of the equity release plan on the value of your estate. Some plans allow you to make repayments equal to or less than the amount of interest that is charged, and the balance is paid off from the value of your estate when you either move into long-term care or pass away.
Home Reversion Plan
A home reversion plan is a means of exchanging ownership of all or part of your home for a cash lump sum. These plans give you the right to stay in the property, rent free, for the rest of your life, but because you continue to live in the house although you have effectively sold it, you can expect to receive an amount for the property that is less than its market value.
However, the amount you can expect from the mortgage is usually more than you would be able to release with a lifetime mortgage. No interest is accrued with this type of plan. Instead, when you sell the property, the reversion company receives a share of the sale proceeds, based on the share you have sold to them. If you decide to buy back the share of the property that you sold to the provider, you would be required to do so at the full market value.
The features of an equity release plan
The money released with an equity release plan is tax-free. It can be spent in any way you want. There will typically be no repayments to make, unless you choose to do so. With a lifetime mortgage, you still own 100% of your home. Equity release plans are portable, so you can still move house further down the line if you want to.
Plans carry a no-negative equity guarantee, which means you will never owe more than your home is worth. Some plans include options to ensure an inheritance for your beneficiaries.
Be careful ask about details such as early repayment charges should you wish to pay off an equity release plan early. A story, much publicised by the press in 2015 illustrates how important this is:
Former tennis star Andrew Castle experienced a situation in which his in-laws, having taken out £70,000 of equity from their home with a lifetime mortgage, were required to pay £118,000 five years later when they needed to move to a care home. The £48,000 cost was a combination of interest rolling up at 6% and an early redemption penalty. Castle’s complaint to the Financial Ombudsman Service was thrown out because the terms of the mortgage had been clearly laid out.
Is it right for you?
Equity release is a serious option and many homeowners are benefiting from the chance make their equity work harder. But it’s not for everyone. The impact of compounding interest can be powerful, and it is vital to be absolutely sure of the costs, benefits and implications before signing on the dotted line.
Be sure to seek specialist equity advice before making a decision. An equity release plan could affect your entitlement to means-tested benefits now or in the future. It is also possible that your personal and financial situation may render you unsuitable for an equity release plan, in which case an alternative source of cash influx should be sought.
Even if you are eligible, make sure you consider all the alternatives to equity release. You might find you prefer to downsize once you’ve weighed up the options.
What other options do I have?
Depending on your circumstances, there may be other products or courses of action that are better suited to you. Here are some things to think about:
- Could you apply for an ordinary mortgage?
Your age and income are often the deciding factors when it comes to getting a mortgage. There’s also always cause for caution when securing debts against your home. As the mortgage companies always say, your home may be repossessed if you do not keep up repayments… However, this could be a useful option if your income is secure, and if you are eligible to borrow
- Could you downsize?
This might be a difficult decision emotionally, but downsizing may be the most practical answer. It’s not worth risking your future security for the sake of your memories, unless you are absolutely sure that staying in your home is essential to your happiness
- Could your local authority help?
If you want to release money for home repairs or heating improvements, it’s worth checking with your local authority to see if they offer any grants or loans
- Is there anyone you could borrow from?
It’s never easy to ask, but consider if there’s a relative or close friend who might be willing and able lend you what money you need
- Could you rent out a room?
If a small, regular income would help, and you have a spare room you could do without, you can earn up to £7,500 tax-free per annum through the Rent a Room Scheme
And it’s important to be sure that you are receiving all of the income and benefits you are entitled to.
How do I find out more?
The decision to take out an equity release plan is a big one, and it’s essential that you find the right product. We would always recommend you seek professional financial advice.
Purple Conversations is partnered with one of the UK’s leading equity release specialists, Age Partnership. Their qualified advisers can help you decide if equity release is right for you, and they can search the market for the scheme that best meets your individual needs and circumstances.
Simply get in touch with us for more details, or use our Age Partnership equity release calculator to find out how much you could release from your home.