How does equity release work?
Equity release schemes have grown increasingly popular in recent years. They involve securing capital against the value of your property, allowing you to remain living there whilst enjoying the benefits of the money tied up within it. As the UK population ages and need for care increases, it has become a viable option for people who need quick and flexible access to cash which isn’t subject to tax or restrictions.
In this article we explain how equity release works, who it is suitable for and why it is such a popular option for retirees needing access to capital.
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What is equity release?
Equity release is the term given to a type of financial agreement which involves retaining the use of a house or property whilst receiving a lump sum or steady stream of income secured against its value.
The money released from your property is tax free and there are no conditions or stipulations attached to it. This means you are free to spend the money you release however you choose.
Although it’s most commonly associated with property there are equity release schemes that involve capital secured on other assets of substantial value. These include cars, antiques and even businesses, but schemes of this kind are much less common.
The term ‘equity release’ represents a complex umbrella of ‘products’, including lifetime mortgages and home reversion schemes.
Here is a video about how equity release works.
How does equity release work?
Equity release generally involves stumping up the entirety or a portion of the value of your property in return for cash. The cash can be spent however you wish. It is usually not subject to tax (although this can depend on your situation).
Equity release schemes either allow you to receive a lump sum in return for the capital, or a regular monthly income. As it is effectively a loan taken out against the value of your property the money is subject to interest. Interest payments are made
Different types of schemes may have slightly altered ways of working. Some of the main types include:
A lifetime mortgage allows you to maintain ownership of your home whilst using the cash tied up in it. Lifetime mortgages enable you to borrow money secured against your home. It is important to consider that monthly repayments will need to be made, usually including interest.
You’re also still responsible for maintaining your home which means you will need to factor in the cost of paying bills and upkeep. This includes a sub-category called a Drawdown Lifetime Mortgage, which unlike others enables you to free up cash as and when you need it.
Home Reversion Plan
A home reversion plan differs from a lifetime mortgage in that you actually sell a portion or share of your home to the provider in return for a tax-free lump sum or regular income (or both).
These are the main types of home equity release products. What they have in common is the release of cash in return for equity in your property.
Eligibility for Equity Release
There are a few conditions of eligibility for equity release. These differ between providers but generally include:
You must own your own home
Only homeowners are eligible to take out an equity release arrangement. If you are the sole home owner but live with a dependent (such as a partner or spouse) you don’t need their permission but should speak with them first.
If you are a couple or own the property jointly with another party they must be consulted and the decision must be made together.
You must be of sound mind
Only individuals who are of sound mind can enter into an equity release scheme. Where a person is no longer able to make decisions for themselves equity release can be possible if the person appointed as their lasting power of attorney arranges it.
There are generally two types of equity release scheme:
Most commonly an equity release arrangement will involve receiving a one-off lump sum. This may represent the partial value or full value of your property.
Some equity release schemes offer a steady income over a number of years, essentially splitting the lump sum into smaller payments over a period of time. This is very much like getting a wage or pension and is preferred by some people for that reason.
This is a good option if you do not need a large sum of money in the short-term, and would rather enjoy it or use it to pay for everyday costs or care long-term. The downside is that you cannot then reinvest the money to potentially get a higher return.
How can equity release help me?
Equity release has drawbacks, but it can be incredibly helpful for people who find they need additional funds, especially in later life.
Situations in which equity release can help include:
Many people find that their savings (if they have savings) don’t stretch far enough to cover costly care bills. Most people prefer to access long-term care at home – but this means that the house can’t be sold to raise funds.
Equity release allows you to stay in your own home and use the money within it to pay for care – the ‘best of both worlds.’
Extra funds for retirement
Home improvements or family holidays.
You have large bills/debts you’d like to clear
Some people choose to use money release from their property to clear large debts or even to cover mortgage payments.
You need to top up your pension
Topping up your pension with funds from your home can help you to better enjoy retirement. Sometimes it is necessary to cover general day to day living expenses
Things to consider include
How many years do I need the money for?These schemes are best for people who need to borrow money over a longer period of time. If you are in need of a short-term loan another financial product may be best for you. Equity release interest rates are high, so repayments may not be affordable for you.
How much money do I need?This is an important question because it is possible to take as much money as you need from your property. For example, if your home is worth £300,000, and you estimate that you will live for 15 more years, taking the full amount will guarantee you £20,000 a year minus fees and interest. If you take less there is a risk you’ll need more in the future should you live longer or require expensive care. It is advisable to only take out an equity release arrangement once, because interest and fees make multiple schemes unviable. When considering how much money you need factor in every eventuality to ensure that the sum you release will cover your needs as far as possible.
Might I want/need to move in the near future?Most equity release schemes stipulate that payment of the loan is due upon death, but some do allow for relocation. It’s worth bearing in mind that if you do decide to move once a scheme has been put in place, or need to move due to ill health or care requirement, payment will be due at that time.
Is this the most efficient way to utilise my assets?It’s a great option for many – but not for everyone. There may be more profitable or suitable ways for you to utilise your property. You are still responsible for the costs of ownership – depending on the type of property and its current state you may find it is not financially savvy or viable. Consider speaking with a specialist later life financial advisor for tailored advice.
Do I want to leave my property to anyone?Equity release will not be an option for you if you are hoping to leave your property to a loved one when you pass away. When you enter into an equity release arrangement you effectively sell your property or a considerable portion of it to the provider. They then sell the property on your death to reclaim the loan.
Will this affect the inheritance I have to give?Equity release generally affects inheritance as lots of people have their capital tied up in their property. When they die the family can sell the property which funds their inheritance payments as set out by you.
Are there any downsides to equity release?It’s important to note that these schemes are not suitable for everyone. Whether or not equity release is a good option for you will depend on your individual circumstances. You can also read our guide covering the pitfalls of equity release. When conditions are right there are some considerable benefits but also important potential downsides to think about. These include, but are not limited to the following:
Equity release may affect your inheritanceNaturally taking money out of your property can affect your inheritance if you planned to leave it to loved ones when you pass away.
Equity release may make your probate more complexSpeak with family and friends and let them know what you plan to do. It’s especially important that the person responsible for executing your will is aware of the scheme.
You may not be able to end the plan and will be subject to penalties if you doEquity release plans aren’t the best option for people with any instability that could cause them to need to make a change at a later stage. Many don’t offer the option to easily end them – and if you do there are usually expensive penalties to pay.
There may be less expensive options more suited to youEquity release schemes can be valuable but there may be a better option that fits your circumstances. For example, personal loans or downsizing. An equity release calculator can help you decide how much money to borrow and how much it will cost. Equity release is also not a good option for anyone who has a history of debt or money problems. Receiving such a large sum of money at once, often representing the entirety of a person’s capital, could be unwise if an individual is not able to manage it well.
Which equity release provider should I choose?When choosing an equity release provider it’s incredibly important to opt for a trusted company. Take time to do you research and where possible ask for impartial reviews to help you to make up your mind. Things to bear in mind include:
Choose a regulated, reputable companyWhen browsing for providers make sure that the companies you shortlist for consideration are all fully authorised and regulated by the financial bodies and signed up to the relevant associated bodies, such as the FCA. This offers reassurance and protection and confirms that the company is reputable and trustworthy.
Check impartial reviewsBeware of companies who post glowing ‘reviews’ on their websites from supposed satisfied customers. As mentioned above, it’s very easy to look professional and appear to be legitimate online. Instead head to impartial review sites such as Google, Facebook, Feefo and Trust Pilot once you’ve made a shortlist of potential providers. These third-party sites allow posting of genuine reviews from real customers, so they give the most accurate picture of how positive your experience may be.
Ask for personal recommendationsIf possible, speak to family members and friends who have experience of equity release. They will be able to offer first-hand advice and can recommend (or warn against) certain providers. Word of mouth recommendations can be invaluable and could potentially save you a lot of time and money.
Consider speaking with a financial advisorIf your personal financial situation is complex it is advisable to speak with a professional who can help you decide how to arrange your assets. The equity release advice you receive should be tailored to your individual situation.
Where can I find out more about equity release and how it works?If you’d like to discover more about equity release schemes you’ll find plenty of resources here on the website. Simply browse topics to find useful articles sharing information on equity release. Here you’ll find data on the benefits, drawbacks, interest rates and more to help you decide whether it’s the right option for you. A releasing equity calculator can help you to determine how much money you could borrow and how much interest you’ll pay. Resources and advice on equity release can also be found on the FCA (Financial Conduct Authority), gov.uk websites and the equity release council. Before you release equity you may want to access tailored guidance. Personalised financial advice can be accessed through a specialist financial advisor.
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