What is equity release and how does it work?

In a nutshell, equity release is a way to turn some of the value in your home into cash – either a lump sum or multiple smaller payments – while you remain in occupation. Over the years, equity release has experienced a lot of bad press and it should certainly be approached with your eyes wide open. But once you have weighed up the pros and the cons and taken independent legal and financial advice, you may still decide that it is right for you and your particular circumstances.

How does equity release work?

For most people, their home is by far and away their largest asset. In contrast, their income and savings may be modest. For some, downsizing may provide a means of releasing some of that tied-up capital to help them out as they grow older. For others, that is not a sensible or realistic option, or they may have strong sentimental ties to the property. For them, equity release may be worth exploring.

Lifetime Mortgage vs Home Reversion

There are two main types of equity release scheme – lifetime mortgage and home reversion:

• The most popular is a lifetime mortgage. The lender will advance you either a lump sum or pay smaller sums regularly (or as and when you need them), secured against the value of your home. When you do come to sell, or you pass away, or go into long-term residential care, the loan plus the accumulated interest will be repaid from the proceeds of sale – although some people choose to pay interest monthly in order to mitigate the amount repayable.
• The second option is known as home reversion. This is where you sell either the whole, or part of, your home to a lender for less than its market value – typically you will receive somewhere between 20% and 60% of the value (of the whole or the part), paid as a lump sum or multiple smaller sums. You are allowed to remain in occupation for the rest of your life, or until you move into long-term residential care. There is no interest because you are selling the property at an undervalue.

What is the difference between a Lifetime Mortgage and Home Reversion?

The main differences between these types of scheme are:

• Benefit from increased value: With a home reversion you have effectively sold your home. This means that you or your beneficiaries will not benefit from any increase in the property’s value over time (or only on the portion you have retained). On the other hand, with a lifetime mortgage, you still own your home and any increase in its value will benefit you or your beneficiaries. Any additional value can be used to help pay off the mortgage.
• Interest: Under a home reversion scheme, as you have received less than the market value, no interest accumulates. With a lifetime mortgage, interest ‘rolls up’ to the total amount repayable, unless you choose to pay it monthly.
• Age to apply: For a lifetime mortgage you (or both of you for a joint mortgage) must be at least 55. For a home reversion plan, you (or both of you for a joint plan) must be at least 65.

Key points to consider

There are some key points to consider when deciding whether equity release is right for you. These include (but are not limited to):

• How much can you borrow? You can normally expect to receive around 60% of your home’s value for a lifetime mortgage or between 20% and 60% of the value for a home reversion, with your age and health being significant factors. To be blunt (but realistic), the older you are and/or the poorer your health, the more you are likely to be able to borrow or receive.
• Interest rates: Ideally, interest rates should be fixed, but if they are variable, there should be an upper limit on the amount of the repayment.
• Lifetime occupation: Always check that you can continue to live in the property for life, or until such time as you may move into long-term residential care.
• Moving home: With a lifetime mortgage scheme you still have the option to move home, but the longer the scheme goes on, the less equity you will have to achieve this.
• Negative equity: You should check whether there is a “no negative equity” guarantee. Avoid a scheme where, if the total debt is more than the value of your home, your estate will be responsible for the shortfall.
• Lump sum vs smaller payments: With a lifetime mortgage, you may have a choice between a lump sum, smaller sums as and when you need them, or a combination of the two. An advantage to taking smaller sums is that less interest will accrue, but you should check whether there is a minimum amount you need to pay.
• Means tested benefits: If you receive (or might qualify for in the future) means-tested benefits, your eligibility may be affected by a capital drawdown from equity release. Common examples of such benefits are pension credit, council tax support, and cold weather payment.
• Ringfence: Check whether you can ringfence an agreed portion of your property for your family to inherit.
• Your age: The usual age requirements for each type of scheme are set out above. With a lifetime mortgage, you should bear in mind that the younger you are at the scheme’s inception, the greater the repayment is likely to be.

Is equity release right for you?

Equity release is not a step that anyone should take lightly. Everyone’s circumstances – financial, family, health – are different, as are our future plans and aspirations. Before proceeding, you should certainly take independent legal and financial advice and thereafter allow time for calm reflection. If you feel pressured by anybody – walk away.

Other options

Always consider whether you have other options and take advice accordingly. It may come down to the question of why you need the money. If you require a one-off lump sum for a specific purpose, depending on your circumstances, a personal loan may be both an easier and a better long-term option.

Some people choose equity release to fund home improvements, including changes to facilitate disabled living or the advancing limitations of age. If that is the case, it is wise to first investigate whether grants may be available to fund or subsidise the work. If so, that may negate the need for equity release.

Downsizing may be an appropriate alternative to free up some capital, but that comes with its own costs which must be taken into consideration. These will include conveyancing fees, estate agent’s commission, surveyor’s costs, stamp duty, and the cost of removals.

What are the costs of equity release?

Equity release requires input from a number of professionals. Broadly, the fees involved will include:

• solicitor’s costs and disbursements;
• equity release advisor/financial advisor/broker’s fees;
• lender’s application fee;
• valuation fee.

Typically, the greater part of the cost is the fee of the equity release advisor/financial advisor/broker. This can vary dramatically, particularly as some base their fee on a percentage of the amount you borrow, so it pays to shop around.