Equity release pros and cons

October, 2014 equity


Last updated: 26 October 2014, 09:13 GMT

The total amount of money lent through equity release passed £1 billion in the first nine months of 2014, according to the Equity Release Council. The average amount released between July and September also hit a record high of £67,467.

It shows how equity release has become a crucial part of many people’s retirement income. But if you’re considering it you need to know how it works and, crucially, how much it might cost.

Equity release in a nutshell

Equity release is where you release some of the value (equity) in your home to provide you with some cash. You continue to live in the home. You need to have paid off most or all of your mortgage before you can consider equity release and you’ll normally have to be aged at least 55.

There are two main forms of equity release: lifetime mortgages and home reversion schemes.

Lifetime mortgages

A lifetime mortgage is essentially a loan secured against the value of your home. You are charged interest on the amount you have borrowed, as with a conventional mortgage. When you either die or sell the home, the money from the sale is used to pay off the mortgage.

You can take a lifetime mortgage as a lump sum, where the interest is added, or rolled up, until the property is sold, or as an initial loan with the option to take other payments later, known as drawdown. The latter can be useful as it will provide regular payments over a number of years.

You can also opt for a mortgage where you can pay off some or all of the interest over time. This can be a much cheaper option.
If you’re in ill health, you may be eligible for an enhanced lifetime mortgage, which will offer you more money upfront.
The danger with this type of equity release, in theory, is if property prices fall you could end up not having enough money from the sale of your home to repay the loan.

Most equity release companies will guard against this by offering what’s called a no-negative-equity guarantee. This ensures you won’t have to pay back more than the value of your home at the time you take out the loan.
A bigger potential drawback is that you may end up paying out a fortune in interest charges, depending on how long you live.

Home reversion plans

A home reversion plan is when a company buys all or part of your home but allows you to continue living in it under a lease agreement. In essence, you’ll be renting all or part of it.

In return, you get a cash lump sum but be aware that this will be below market value.
The percentage you can borrow against will depend on how old you are when you go for the equity release plan. The younger you are, the less you’ll get.

Be aware that you’ll be exchanging a greater percentage of your home than the percentage of its value you’ll receive. So, for example, you could receive 20% of the value in return for the equity release company getting a 60% share of your home.

As with a lifetime mortgage, you can opt for a lump sum upfront or a regular drawdown income. As well as losing out on the true value of your home, another potential drawback of this type of equity release is not owning your own home means you cannot pass it on to your family.

You will also potentially need to invest some of the money you receive, otherwise it will lose value due to inflation. This takes time and effort, particularly with interest rates on savings accounts as low as they are right now.
Interest charges and fees

There are likely to be fees to pay, including administration fees, legal fees and valuation fees. You may also be charged an early repayment fee if you pay your loan off early.

Potential effect on benefits

If you’re on a low income and receiving benefits, opting for equity release and a subsequent increase in income could see your benefits cut or stopped altogether.

Don’t rush in

While equity release can seem a very tempting proposition, particularly if you really need some money now, it’s important to consider all your options. If possible, you might want to get independent financial advice that will look at your specific circumstances.

You must make sure you can afford the repayments.
If you think equity release is the right road for you, shop around for quotes and make sure the company you use is on the Financial Conduct Authority register and a member of the Equity Release Council. They should also be qualified to give advice on equity release.

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