Is Equity Release a Good Idea? Quick Analysis
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Is equity release a good idea?
This is a frequently asked question by any senior considering lifetime mortgages or home reversion plans. It’s a difficult question because the decision doesn’t just come down to finance. You’ll also need to consider your loved ones and estate beneficiaries.
We take a look at the pros and cons of equity release so you can make an informed decision. And don’t forget to engage with an independent financial adviser before you sign on any dotted line. Let’s begin with a quick equity release recap.
What is equity release?
Equity release is a method used by senior homeowners to access some of the value of their home as a cash lump sum or as a drawdown facility (regular payments). You’ll need to be of a minimum age to apply, starting at 55.
The homeowner will not need to make any principal or interest repayments on the money they receive. Instead of paying back through monthly repayments, the homeowner repays the money when they sell their home.
They can never be forced to sell unless they move into long term care. If they never need to go into an aged care home, the home is sold from their estate when they die to pay off the debt.
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What is the catch with equity release?
The ‘catch’ with equity release is that the overall cost of accessing some of the value of your home is expensive. Taking out some of the value of your property could mean having to repay more than double that amount when the property is eventually sold.
Equity release can be so costly because the companies that provide equity release products must protect themselves from the value of your property decreasing, while also trying to make a profit out of the agreement.
Although this is seen as a ‘catch’, in reality, it is just one of the disadvantages of equity release. Taking the time to understand how equity release works and getting equity release advice will ensure you aren’t caught out by bad deals and even scams.
Equity release in detail
Equity release can be divided into three main products. We have explained how each of these work below.
- Lifetime mortgage
A lifetime mortgage is the most used type of equity release plan. With a lifetime mortgage, you access some of the equity in your property and pay a fixed rate of interest on the amount. But as mentioned, you don’t actually pay anything through monthly repayments. The interest is built up and adds to your total debt owed. We should also add that some lifetime mortgage providers allow you to pay the interest to keep the total debt down.
When it is time for the property to be sold, you must repay the total debt from the sale proceeds. If the negative equity guarantee applies to your lifetime mortgage – which we dive into in more detail later – you can never owe more than the value of your property when it is sold.
- Enhanced lifetime mortgage
Enhanced lifetime mortgages work in the same way as a general lifetime mortgage with one key difference. Within the application process, you complete a health and lifestyle questionnaire and have the opportunity to supply medical records.
You would do this if you have bad health that has reduced your life expectancy. If you have a reduced life expectancy than the average senior, possibly due to a terminal illness, the lifetime mortgage provider could enable you to access even more equity as a cash lump sum. In summary, people with poor health can get more money with an enhanced lifetime mortgage.
- Home reversion plans
A home reversion scheme is less common than lifetime mortgages but can still be used by seniors in the UK. It is when an equity release company agrees to loan you the money for a percentage of your property. This is provided as a lump sum or drawdown facility.
They do not usually charge interest on the loan, but the amount they offer you significantly undervalues the equity they want in return. For example, you could receive 20% of the value for your home but have to pay 50% of the sale proceeds back to the company when it is eventually sold.
What is the Equity Release Council?
The Equity Release Council (ERC) is a body that strives to improve the standards of service within the equity release niche. Financial advice companies, legal firms and equity release companies can voluntarily become members of the Equity Release Council. To become a member the company must be a legitimate and legally operating company, i.e. it must be authorised and regulated by the Financial Conduct Authority.
Once members, they must agree to the rules and guidelines of the Equity Release Council. This is an extensive list that governs the way they should operate or the terms of lifetime mortgages and home reversion plans. They work in the interest of senior homeowners to keep them protected with guarantees.
If you are going to use an equity release plan, it is a good idea to use a provider that is a member of the ERC.
What are the advantages of equity release?
The advantages of an equity release plan are:
- The lump sum or drawdown you receive is tax-free
- You never have to make repayments unless you volunteer to do so
- The money can be spent on anything you wish
- The application process is relatively quick and usually straightforward
- It might be able to help reduce inheritance tax in some less common situations
When you choose a provider that is a member of the ERC, you’ll also benefit from:
- The negative equity guarantee ensures you will never pay back more than what your home sells for. So if you have a lifetime mortgage for a long time and the debt has grown significantly, any shortfall between the total debt and the sale price does not have to be paid by you, your estate or your beneficiaries.
- You must be allowed to move home to a suitable alternative property and take your lifetime mortgage with you.
- You can never be evicted from your home for normal reasons. You’ll only be evicted if you have left the property to deteriorate or have lied on your application.
When is equity release a good idea?
Equity release is a good idea when you need money to live a more comfortable retirement or to afford the things you want to see and do in your later years. If you cannot afford a comfortable retirement or to do the things you always wanted to, then equity release could be an effective and quick solution.
This decision is made easier if you do not have anyone to leave your property when you pass away. It may be a little easier to make if your estate beneficiaries are already wealthy and the property you leave behind will not make a huge difference to their financial security.
What is the downside to equity release?
The primary downside of equity release is the total cost. Having a lifetime mortgage for over a decade can easily double the amount you owe, even with a decent fixed interest rate. Similarly, home reversion plans can cost you similar amounts in the end. Even if you just take out 50% of your equity, you could end up having to pay all of the property sale proceeds to the equity release company in the end.
And of course, this affects how much inheritance you pass on. By not passing on a property to children or grandchildren, it also reduces the inheritance tax threshold by £150,000.
Some other cons of equity release are:
- Early repayment charges are huge and usually unaffordable, meaning you’ll probably be stuck with the mortgage once you agree.
- Downsizing after taking out equity release can mean having to pay some of your mortgage off, and that could trigger those eye-watering early repayment charges.
- There are other fees to consider, such as mandatory financial advice or legal advice.
- You could lose eligibility for some means-tested state benefits (more on this later).
Is equity release worth considering?
Equity release is worth considering if you do not have the money to live comfortably in retirement. If you already have enough money to live how you want to in later life, then it may not be worthwhile to consider an equity release plan. Having the money sitting in the bank with no purpose will just deteriorate your overall wealth and estate over the long term.
However, it may still be worth considering if you have nobody to benefit from your property and estate. Just remember to only consider releasing equity from a company that is regulated by the Financial Conduct Authority.
What is the best age to take equity release?
From a cost perspective, the older you are when you take out a lifetime mortgage the better. This is because the later in life you take it out, the shorter the duration it will be active until you either need to go into long-term care or pass away. As the mortgage will be shorter in duration, the amount of interest that would have rolled up will be less, meaning the total debt will be smaller.
But if you consider it against things away from finance, you may come up with a different answer to this question. For example, if you want to release equity so you can travel to different countries, you’ll probably prefer to do this in your 50s rather than in your 70s when you may have mobility issues and less energy.
Are equity release plans good or bad for YOU?
The only way to know if equity release is good or bad for you is to do your research and understand the pros and cons of each plan. But it’s also essential that you seek financial advice from a company that is independent of any equity release provider.
Is there a better alternative to equity release?
If you don’t want to release equity because you want to pass on a greater inheritance to loved ones who may significantly benefit from your estate, then there are alternative options. One of the most popular equity release alternatives is to downsize.
By selling your current home and then using some of the money to move into a smaller home, you could create a nest egg for your retirement. This money could be used to make your twilight years more comfortable or it could be used to fund things to see and do on your retirement bucket list.
Choosing this method will ensure you pass on 100% of a (smaller) property to loved ones, and in the process, increase the inheritance tax threshold on your estate by £150,000. On the other hand, if there is a strong sentimental attachment to your current home, downsizing can be a difficult decision and you may prefer to choose equity release.
Does equity release affect benefit payments?
Releasing equity will instantly increase the amount you have in your UK bank account or savings account. If this is not spent and sits in the account, it could push your level of savings above the threshold to receive some means-tested state benefits.
Firstly, it will not affect your eligibility to receive a state pension, but it could affect your eligibility to receive pension credits that top up the state pension for people on a low income. For every £500 you have saved above £10,000, your pension credit payments decrease by £1. This may get to a point where you can no longer receive any pension credits.
Without pension credits, your eligibility to receive a council tax reduction is affected and you’ll need to suffice the savings threshold of your local authority, which is usually around £16,000. So if you no longer receive pension credits and have more than £16,000, you’ll lose your council tax reduction benefit. The same applies if you receive Universal Credit.
Can I release equity with bad credit?
Yes, equity release is still available to seniors with bad credit. The lender will not assess your finances or your credit score as part of an application. They only look at the property to determine if it will be easy to sell on the open market once you die or move into care.
So, is equity release a good idea? (Quick recap)
There is no concrete answer when asking “is equity release a good idea?”. The answer to this question is based on your personal circumstances and feelings, rather than just finances alone. It’s more likely to be a good idea if you need cash to live a comfortable retirement, and not such a good idea if you are already wealthy and don’t really need the money, whereas your beneficiaries do.
Learn more about equity release schemes for free!
To learn more about equity release in the UK and how it can be a good or bad idea, read more of our new MoneyNerd guides. Our equity release nerds have been busy creating over 100 new equity release posts to explain how they work and their consequences. They’re all free and on our website now!