If you require funds yet have no desire to relocate, releasing equity may appear to be an attractive alternative. Nonetheless, given its considerable implications, such a decision should never be undertaken without first obtaining independent expert counsel. In this article, we will delineate what equity release entails, explain its mechanics, and address any queries you may have.
What Is Equity Release?
Equity release is a financial scheme that permits older homeowners to unlock the equity tied up in their homes, transforming it into tax-exempt cash while retaining property ownership. It should be stressed that any capital released must initially be utilized to clear any existing mortgages. The residual sum is then yours to allocate as you wish, be it for property refurbishments or familial assistance.
There are primarily two categories of equity release: Lifetime Mortgages and Home Reversion Plans. The former, targeting homeowners aged 55 and over, is the most widely adopted. It grants you the right to borrow against your property’s value whilst retaining full ownership of your home for life without the necessity of monthly repayments.
Consequently, such mortgages are progressively becoming a favored means for those aged 55 and above to tap into their home’s equity.
It’s vital to differentiate between equity release mortgages and equity withdrawal via remortgaging. In the latter scenario, you are required to make monthly repayments to cover the borrowed amount and associated interest.
What Is Home Equity Release?
‘Equity’ pertains to the remaining value of your property after subtracting any outstanding debt (such as your mortgage).
‘Home equity release’ facilitates the extraction of a portion of your equity while you continue to reside in your property. This could be beneficial, for instance, if you need funds for home renovations, healthcare costs, or to aid in managing living expenses.
There exist several methods to tap into your home’s equity, these include:
● Reverse mortgage
● Home reversion (profit sharing from property sale)
● Equity release agreement
● The Government’s Home Equity Access Scheme (formerly known as the Pension Loans Scheme)
The sum of money you are eligible to receive is influenced by:
● Your age
● The market value of your property
● The chosen equity release type
Your decision could significantly impact your partner, family members, and any cohabitants. Therefore, it’s crucial to have thorough discussions, seek unbiased advice, and ensure that you fully comprehend the commitment you are undertaking.
How Does Equity Release Work?
There exist two methods to extract value from your home’s equity: through a lifetime mortgage, which enables you to secure a loan against a portion of your home’s value, or through a home reversion plan, wherein you sell a part of your property.
1. Lifetime Mortgages – For Those Aged 55+
The most prevalent form of equity release is the lifetime mortgage. Under this arrangement, you secure a lump sum against your property, the repayment of which is contingent upon the sale of your home upon your demise or entry into long-term care. The borrowing potential typically ranges between 18% and 50% of the property’s total value, and generally, the older you are, the higher the amount you can unlock.
Your owed sum increases with accruing interest, although some arrangements permit you to mitigate this by periodically paying off the accrued interest — a format known as an ‘interest-paying mortgage’. Should you opt not to pay off the interest periodically, you would be in an ‘interest roll-up mortgage’. In such a scenario, the interest compounds over time, leading to a larger overall repayment.
Many lenders now extend a ‘no-negative-equity guarantee’, ensuring the debt owed will never surpass the selling price of the property. However, it’s worth noting that this could mean the property’s entire value is consumed in settling the mortgage debt.
If you have a severe health condition or lifestyle habits deemed unhealthy, such as smoking, you may qualify for an ‘enhanced lifetime mortgage’. This could enable you to borrow a larger sum or benefit from lower interest rates.
2. Home Reversion Plans – For Those Aged 60+
The other method of equity release is through a home reversion plan, although it currently constitutes less than 1% of the market share. In this setup, you sell all or a portion of your property to a plan provider, who in turn provides you with a tax-free lump sum.
Given that the provider grants you the right to reside in the property rent-free for the remainder of your life, the lump sum you receive will not equate to the market value of your home. Upon your passing, the property will be sold, and the portion of its value corresponding to the percentage sold under the plan will go to the company that offered the reversion scheme.
For instance, if you sell a 40% stake in a property valued at £200,000 in exchange for a lump sum of £40,000, the cash you receive is considerably less than the £80,000 this share is actually worth (based on current market values). This discount is primarily due to the provider having to wait several years to recover its investment. If, upon your passing, your home is eventually sold for £300,000, the provider is entitled to £120,000, reflecting 40% of the sale proceeds.
Therefore, home reversion plans tend to be more advantageous if property prices remain stable and less so if they witness a significant rise.
How Does Equity Release Mortgage Work?
1. Seek Professional Counsel
The preliminary step involves engaging a financial advisor who is authorized to dispense advice on equity release products. The advisor will ascertain your eligibility and work collaboratively with you to determine if an equity release is an appropriate strategy for your circumstances. The advisor will formulate a recommendation tailored to your individual desires, requirements, and financial status.
2. Offer Procurement and Property Assessment
If you opt to move forward, engage a solicitor who specializes in equity release to represent you and provide unbiased legal advice. Your advisor will subsequently assist in submitting your application to the lender of your choosing. The lender will establish contact with you to coordinate a property appraisal. Once your application receives approval and the appraisal concludes, the lender will forward the offer and related terms to your solicitor.
3. Fund Disbursement
Upon acceptance of the offer, the lender will transfer the funds to your solicitor. The solicitor will then dispense the funds to you in the format agreed with your lender, such as a single lump-sum payment or the initial installment in a sequence of smaller amounts.
How Much Does Equity Release Cost?
Presently, the typical interest rate for lifetime mortgages hovers around 4.5 to 5%, with the lowest rates tending toward 4.25%. Although these rates are lower than they were a decade ago, they are substantially higher than the peak rates associated with standard residential mortgages. However, it’s important to note that a low interest rate does not always equate to the best financial deal.
When contemplating which equity release product is most suitable for your situation, consider that the hefty cost burden your estate may have to bear results from your decision not to make monthly repayments to decrease the debt, leading to compound interest.
For instance, if you borrow £20,000 at an interest rate of 5.1% at the age of 60 against a £120,000 property, the debt you owe will approximately double every 14 years. Therefore, if you live until 74, you would owe around £40,000; should you live until 88, the amount owed would increase to £80,000.
Beyond the cost of interest, you’ll incur several fees. The total charges are likely to fall between £1,500 and £3,000, contingent on the type of plan implemented. These costs encompass arrangement and valuation fees, as well as legal and surveyor expenses.
Is Equity Release a Good Idea for You?
The suitability of equity release is subject to your individual circumstances. The following conditions may indicate equity release is an appropriate choice:
● Your existing savings and/or sources of income are insufficient to cover your retirement expenses.
● You are unwilling or unable to relocate to a smaller residence.
● You are comfortable with diminishing the inheritance your family will receive, or you do not have any beneficiaries.
● An independent financial advisor has recommended equity release as your optimal option.
However, there are alternative scenarios where equity release may not be the optimal choice:
● You have other means to augment your retirement income.
● You have the ability to liberate funds by moving to a smaller home.
● You aspire to bequeath as much of your estate as possible to your family.
● An independent financial adviser has advised against equity release as the most appropriate option for your situation.
There are a multitude of factors to evaluate when determining if equity release is compatible with your personal circumstances. Regardless of where you seek advice, you will be afforded the opportunity to discuss your situation and ascertain whether equity release is the most beneficial option for you. There could potentially be superior alternatives to equity release, such as refinancing your mortgage or moving to a less expensive residence.
