Everything you need to know about Equity Release

Throughout different times in life, homeowners might explore the idea of remortgaging to release equity in their home.

By accessing the money, they can then spend the money on home improvements, clear any loans, or maybe even purchase a caravan or a once-in-a-lifetime holiday. 

In recent years, there has been an increase in the number of homeowners aged 55 and over that are looking into the possibility of equity release by taking out a lifetime mortgage or a home reversion.

Choosing to release equity in your property is a huge financial decision, so it is important to be fully clear about the process and understand all of the drawbacks, as well as the advantages.

In this guide, we look at everything you need to know about equity release to help you to make the decision that is right for your specific situation. 

What is equity release?

Equity release enables homeowners to access money based on the value of their property without selling it.

Equity release is a financial product that mortgage providers offer to homeowners aged over 55, so that they receive a lump sum of money (or smaller, regular payments) in exchange for a repayment agreement. 

The different types of equity release explained

There are two different types of equity release products available on the market and one might be more suitable for your needs than the other, so we’ll explain the key differences:

Lifetime mortgages

This is the more common form of equity release and it is based on an agreement that you are provided with a sum of cash and the amount, plus interest is paid back either when you pass away or go into care.

Like with most mortgages, different rates and fees are available from different equity release companies. 

Some lifetime mortgages offer the opportunity to make interest repayments rather than let the interest accumulate, which might suit people that are worried about how much a lifetime mortgage will reduce their family’s inheritance.

You also have the choice to set the amount of the property’s value that you want to be paid as inheritance, to ensure that your family gets that sum when you pass away.

Home reversion

This type of equity release involves selling part or all of your property to the provider in exchange for a lump-sum payment.

You can alternatively agree to take regular payments, rather than a lump sum.

You are still able to live in your home but it will be owned, or partially owned, by the home reversion provider.

Where you choose to sell part of your property, this will be agreed as a percentage and that proportion remains the same, despite any value fluctuations.

Similarly to the lifetime mortgage option, you are able to set an amount of the property value to be attributed to inheritance.

When you pass away, the property gets sold and the money will be split according to the agreement.

How much equity can be released?

Generally, the amount of equity that people arrange to be released is between 20% and 50% of the property value.

The lender will get your property valued by a surveyor and use your age and health as indicators of your life expectancy to decide how much they are prepared to lend to you.

What are the benefits of equity release?

There are many different reasons that homeowners decide to release equity in their home but generally, it is to provide them with more financial freedom.

Just like the purposes of taking out loans varies greatly from one person to another, equity release can benefit people in a number of different ways such as:

• Providing financial support to your family instead of them waiting to receive an inheritance.
• Paying off loans and any other debts.
• Being able to live a higher standard of life, for example, taking more holidays.
• Making improvements to your home, such as an extension, new kitchen, or a bathroom that is more suitable for using as you get older.
• For a big purchase like a car or a caravan.
• To live without worrying about paying bills or any other financial concerns.
• Reduction in inheritance tax.

For those who want to make sure that they are able to enjoy their retirement years and not feel any financial burdens, equity release provides that opportunity.

Financial advisers often recommend equity release as a way to avoid paying huge amounts of inheritance tax but must provide calculations on the projected interest over different lengths of time.

In the UK, people are currently taxed 40% on any inheritance above the threshold of £325,000, so by taking out a lump sum before you pass away, rather than leaving that amount as inheritance, the tax is avoided.

However, you must also think about how much interest you will end up paying and whether it could end up being more than the tax.

What are the fees involved with equity release?

Fees vary massively from one company to the next but at Boon Brokers there is no client fee for the equity release service.

As shared by moneyadviceservice.org.uk arrangement fees can reach between £1,500 and £3,000, and many brokers do not offer a free service like Boon Brokers do. 

As an example, Age Partnership charges 1.95% of the amount released, which on an amount of £100,000 would be £1,950.

Working with a broker will generally give you access to more deals and there is quite a bit of work involved in finding deals through different lenders, so using a broker makes the process much easier and stress-free.

You should also make sure that any company that you work with is a member of the Equity Release Council, for your protection.

The typical rate that you will pay, according to Martin Lewis, is 5%. However, this amount depends on your circumstances, just like with standard mortgage rates.

You will find rates ranging from about 3% up to 7% but only a small percentage of people will qualify for the really low rates.

Factors that influence the rate that you will be entitled to include your age, health, property value and lump sum amount.

Other costs that are applicable are legal work, advice and surveyor fees. 

Who can have equity released?

Homeowners over the age of 55 are eligible to release equity and whilst some companies will want you to have paid off your mortgage completely, not all providers do.

Also, some lenders will only lend to people over 60 years old and it is the age of the youngest homeowner that is taken into account.

Your home must be in the UK and homeowners in the Isle of Man are not eligible for equity release.

Most lenders will only provide their equity release service for properties that are valued over £70,000.

There are also maximum property value limits imposed by some lenders.

The minimum amount that you are able to loan on a lifetime mortgage is £10,000, so if you only require a smaller amount, you will need to look at other options.

Many lenders will perform credit checks and may not provide services to those with a poor credit history, despite the fact that your property is the security for their loan and monthly payments are not required.

When shouldn’t you release equity?

The big disadvantage of equity release is that it involves compounding interest, so the amount of interest escalates very quickly.

Over a period of 15 years, debt will generally have doubled, so it can end up being very costly.

As you are not paying off interest monthly as you would with a standard mortgage, the interest just builds up until you pass away or go into care.

Whilst it will not be you that is paying back the interest, as you will no longer be around, your will beneficiaries could lose out on a lot of inheritance.

People that are entitled to certain benefits can be affected by taking a lump sum of equity.

For example, pension credit and any other means-tested benefits could be lost or reduced.

It is important to remember that this is a permanent agreement and that trying to switch to better rates is not an option due to the typical early repayment charges of around 25%.

There is also the issue that once you release equity, you are not able to take out any other loans against the property.

The average life expectancy in the UK currently stands at 82.9 years for females and 79.2 years for males.

Therefore, if you take out a lifetime mortgage at 55, the average person will live for at least another 25 years.

The interest that compounds over that length of time will be very significant, so you need to take that into account if your main reason for considering equity release is for inheritance tax avoidance.

If you opt for selling your home to a reversion company and your property value rises in the future, it would be the lender that profits from that and not you or your beneficiaries.

Is equity release the right option for you?

Like any financial decision, you must weigh up all of the pros and cons before deciding whether it is the right option for you.

If you stand to lose benefits then it could be the wrong move for you and it is a decision that is very difficult to reverse without huge financial penalty.

If there is a specific need for money, for example, to pay for private medical bills, or another unexpected cost arises then equity release may be the most suitable option.

If you are in good health you could live for many years, with the interest accumulating all of that time and potentially reducing the amount of inheritance that your family receives.

You should consider all of the available alternatives, such as taking a short-term loan out or downsizing and moving into a smaller property to release some funds.

You could even consider selling your property and renting a home so that you can access the money tied up in your property.

Sometimes expenses that you never planned for will appear and you simply need to get some money to deal with them.

If your options are limited because you are retired, equity release might be your only way to get by.

If your main priority is to live as comfortable a life as possible, rather than leave an inheritance, then equity release is definitely a way to achieve a better quality of life.

For some people, working all your life to pay off a mortgage and then not being able to enjoy retirement to the extent they could, feels unfair.

They are then able to release equity and live their dream retirement, filled with nice holidays, hobbies and other lifestyle costs.

Conclusion

Equity release is becoming more popular as people over 55 are choosing to take up the opportunity of complete financial freedom and the opportunity to enjoy the money whilst they are alive.

Whilst it is a very good option for many people, it is important that you fully consider the implications of choosing to release equity.

You must consider the impact that it will have on your will beneficiaries before you make the decision. 

There are many alternative options that you should give consideration to, from downsizing and moving into a smaller property, to taking out a different type of loan.

What people tend to overlook is that compounded interest quickly mounts up, which can sometimes end up costing more than inheritance tax would have been.

Therefore, it is a good idea to calculate the amount that it would cost when you live beyond the average life expectancy to evaluate the impact on your family.

Unlocking the value of your property could completely change your life, or bring significant improvements to your family’s future, so it is easy to see why so many people are choosing to release equity.

If you do choose equity release, it is really important to select a lender that is in the Equity Release Council, to ensure you are protected by their code of conduct.

Finally, never rush into this important, long-term decision, take your time and get expert advice before you commit to any arrangement.