Equity Release or Remortgage – Complete Comparison
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Using an equity release plan or remortgaging are two completely different methods of releasing equity from your home, and for the most part, they are used by different people in different situations.
But there may be a small percentage of the population who qualify to use either method and have the same intentions, such as over 55s with a small existing mortgage and needing money for home improvements.
It can be difficult to know whether to use equity release or remortgage in this niche situation. This guide will provide clarity on the decision ahead.
What is home equity?
Home equity is the amount of equity you own in your home and can be worked out by taking away all your outstanding debts secured by the property away from the current property value. So, once you have completely paid off your mortgage and have no other loans secured by your home, you will have 100% home equity.
When you secure a debt with your home, your home equity is used to determine how much you can borrow, as well as the lender’s loan to value (LTV) ratio.
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What is remortgaging to release equity?
Some homeowners choose to remortgage to release equity, which is when they take out a new mortgage that is used to pay off their old one but simultaneously borrow additional money using their equity as security.
An example of remortgaging to release equity
Remortgaging to release equity is best understood with an example. Let’s imagine that John owns a £200,000 property and has an outstanding mortgage of £75,000. He wants to borrow £25,000 to get a new kitchen and bathroom. He could just take out a personal loan or a secured loan against his home. This would mean he has to repay his mortgage debt and the loan separately. Or he could remortgage to release equity.
This would require John to get a new mortgage worth £75,000 plus £25,000 to pay for the kitchen and bathroom (plus the cost of any fees during the process). He might ask a mortgage lender to give him a mortgage worth £105,000 and use £75,000 (plus any early repayment charges) to clear the first mortgage debt. He now has just the one larger mortgage rather than a mortgage and a loan – and the money to pay for his new kitchen and bathroom.
Interestingly, making home improvements like these could increase the value of your home and therefore increase your home equity again.
The pros and cons of remortgaging to release equity?
The pros of releasing equity through remortgaging are:
- The debt is secured so you may get a lower interest rate and cheaper monthly repayments
- You may get lower interest because your finances and credit score is better today than when you first took out the mortgage. This is why some people remortgage in any case.
- You may be able to borrow more with a new mortgage compared to other loans
- It allows you to have one debt and one monthly repayment
- The loan can be used for any purpose, but may be used for home improvements that increase the value of your home
The main cons of remortgaging to release equity are:
- You may have to pay early repayment charges to clear the first debt, which may be anywhere between 2-5% of the value of the outstanding debt.
- There may be other fees to pay, such as financial advice fees and brokerage services
- You can still be denied a new mortgage if you have a poor credit rating
Do I have to remortgage to release equity?
Remortgaging is just one method of releasing equity. There are other ways of releasing equity in the UK, which may be more advantageous for you. Some of the most popular alternatives are:
- Second charge mortgages – these are additional loans secured by your home but separate from your residential mortgage, such as home equity loans or a HELOC.
- Equity release – a unique method of releasing equity only available to over 55s who already paid off their mortgage or have a small mortgage remaining.
What is equity release and how does it work?
Equity release is a method of borrowing against home equity that can only be used by senior homeowners over the age of 55. It is usually used to help fund retirement and later life, but it can also be used to complete home improvements, renovations and much more.
Equity release loans are unique because they allow the homeowner to borrow a lump sum but do not require any monthly repayments. The lump sum and any interest which may be added are only repaid when the last surviving homeowner dies or moves into long-term care. The property is sold to raise money and repay the total debt in a single payment.
To use equity release the property you want to release equity from must be your main residence valued at around £80,000 at minimum.
In normal circumstances, the homeowner(s) must have already paid off their mortgage and any other debts attached to the property, but in some situations, the homeowner can access an equity release scheme with a small existing mortgage. However, as part of the process, the homeowner may need to use some of their lump sum to clear their mortgage debt first.
What is the catch with equity release?
Receiving a lump sum payment and not having to repay anything at all until after you die or move into care can sound like a great deal. And for many people, these terms work for them and provide financial security in later life. However, there is somewhat of a catch to equity release – and that is the cost of these loans.
With any equity release products, you should expect to pay back at least double your loan amount from the property’s eventual sale proceeds. This will be more of a concern if you have children and wanted to leave them a sizeable inheritance.
Is equity release a con?
Despite the high costs of equity release loans over the long term, an equity release loan is not a con or a scam when it comes from a lender that is authorised and regulated by the Financial Conduct Authority.
However, some people still think equity release is a con because of the costs. It’s certainly a method of releasing equity that will only be beneficial to certain homeowners, which is why equity release advice is essential.
The different types of equity release
There are two types of equity release plans in the UK. These are lifetime mortgages and home reversion plans. A lifetime mortgage is by far the most popular method. They charge the loan with interest that is never repaid monthly either and instead gets added to the total owed, growing the debt each month.
This compounding fixed interest rate is what makes lifetime mortgages so expensive in the long run. Thankfully, lenders that are members of the Equity Release Council must commit to a negative equity guarantee, which stops the lender from chasing any debts that exceed the sale money from the property.
The pros and cons of equity release
- Receive a tax-free lump sum
- Spend it on anything you wish
- No monthly payments required
- Keep living at home as normal
- Only repay after death or moving into care
- These loans can cost thousands to set up
- They are very expensive to repay when the time comes
- You will have to give up your home eventually to repay
- You can lose access to means-tested benefits
What is the difference between equity release and remortgaging to release equity?
Equity release plans and remortgaging to release equity are both viable ways to borrow money by using the equity in your home. However, remortgaging to release equity is one of the mainstream methods of doing so, along with second charge mortgages. Equity release is a more niche method because it can be only used by senior homeowners and you often need to have already paid off your mortgage to use it. Moreover, equity release is most used to fund retirement rather than to fund home improvements and other investments.
But the biggest difference between equity release and remortgaging to releasing equity is how these debts are repaid. The mortgage is paid back over a fixed period of monthly instalments, whereas equity release schemes are repaid when the homeowner dies or moves into care with a single payment funded by their property sale.
Is it better to use equity release or remortgage?
A small percentage of people may have to decide whether to use equity release or remortgage. For example, if you were 55 years old with a small mortgage and wanted to make some home improvements, you might have both options available to you. You could use equity release or try to extend your mortgage and make repayments.
The decision will be a personal one based on your finances, family situations and possibly your employment and health status. The best way to understand these options in full and make the right decision is to receive personalised financial advice. Yet, more often than not you will be encouraged to extend your mortgage rather than use equity release – if possible.
Is there a better alternative to equity release?
One of the most used alternatives to equity release which is an option at all ages is to move to a less valuable home. If it is possible to sell your property and buy a less valuable one – possibly downsizing – then you could create a reserve of cash to be used for any purpose. Keep in mind the fees and stresses of moving when considering this equity release alternative.
Equity release or remortgage – the final verdict!
The final decision on whether to use equity release or remortgage can only be made by you after receiving personalised advice from a financial adviser who is authorised and regulated by the Financial Conduct Authority and a presence on the Financial Services Register.