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What is equity release and how does it work?
For many of us approaching retirement, our home is our largest asset. Increasingly, many consider how they can use this asset to provide additional income or capital. That’s not surprising given that the average UK pension pot for somebody reaching state retirement age is under £100,000.
The two main options are either to downsize to release capital or consider equity release. The equity in our home is the property’s value, less any debt (usually a mortgage) secured against it. Equity release does exactly what it says, allowing you to access some of this equity.
With an equity release provider, you have two main options:
- a lifetime mortgage; or
- a home reversion plan.
How does a lifetime mortgage work?
A lifetime mortgage is a loan secured on your home, where you remain as long as you wish. Typically, the arrangement ends when you pass away or move into long-term residential care. Then, following the sale of the property, the initial loan and accumulated interest are repaid from the proceeds of sale.
There is no requirement to make interest or capital repayments until the sale of the property. However, most schemes allow voluntary repayments, subject to lender criteria.
How does a home reversion plan work?
A home reversion plan allows you to sell all or part of your home to the equity release provider in return for a lump sum or regular payments. Although you may continue living in the property, you must agree to insure and maintain it.
Home reversion plans are far less popular than lifetime mortgages. That’s because legal ownership of the property transfers to the scheme provider. You become a leaseholder with the right to continue living there.
Is equity release right for me?
Equity release is a huge step and is certainly not right for everyone. After all, we all have very different financial, health and family considerations and unique plans and aspirations. Always take independent legal and financial advice and allow plenty of time for reflection. Only proceed if you are certain you are doing the right thing for you. Key considerations include:
Are there any more efficient ways to raise capital?
You will need to discuss this with your independent financial adviser.
How much can you borrow?
In most cases, you will receive around 60% of your home’s value for a lifetime mortgage and between 20% and 60% of its value for under a home reversion plan (subject to age, health and other considerations).
What is the interest rate?
The rate should be fixed, or there should be an upper limit if variable.
How long can I continue to live there?
Always check you can remain in the property for life or until you have to move into long-term residential care.
Only take legal and financial advice from recognised equity release specialists
This means members of the Equity Release Council. That way, you will receive unbiased advice on whether equity release is the best option.
Can I move home?
Lifetime mortgage schemes give you the option to move home, but as time goes by, you will have increasingly less equity to achieve this.
What about negative equity?
Sometimes, the accumulated capital and interest under the scheme eventually exceed the property’s value. Always check there’s a ‘no negative equity’ guarantee and avoid schemes where your estate is responsible for the shortfall.
Lump sum vs smaller payments
Lifetime mortgages often provide a choice between a lump sum, smaller sums as and when required, or a combination of the two. The advantage of taking smaller sums is that less interest accrues, but always check whether there’s a minimum amount to pay.
How does equity release affect means-tested benefits?
If you receive means-tested benefits or might qualify for them in the future, a capital drawdown may affect your eligibility. Typical examples of benefits include council tax reduction, pension credits and cold weather payments.
How does equity release affect my tax position?
You will need to discuss this with your accountant of independent financial adviser.
What about my family and inheritance?
Clearly, equity release will affect the value of your estate, and possibly dramatically so. Check whether the scheme allows you to ringfence an agreed portion of your property for inheritance purposes. In all cases, discussing your plans with your family is first advisable.
What is the minimum age requirement for equity release?
For lifetime mortgages, you must be at least 55. The minimum age for a home reversion plan is 65. In each case, for a joint mortgage, both you and your partner must have reached the minimum age.
Are there any hidden costs?
Advisers should always provide you with a comprehensive list of fees, including arrangement fees, survey fees, and legal costs.
Early repayment charges
Always bear in mind that there are highly likely to be early repayment charges if you repay a lifetime mortgage before you die or go into long-term residential care.