Equity release is a historic type of mortgage that has been around in many guises since the mid 1960s. It has been used by homeowners who wish to benefit by releasing some of the equity built up over the years to enhance their standard of living. These schemes have evolved further to now become a very popular & highly regulated form of borrowing for people at or near retirement.
Equity release schemes are fully regulated by the FCA (Financial Conduct Authority) & all companies providing such schemes are members of the Equity Release Council which provides its own code of conduct on how these schemes are operated and the mandatory features that must be included.
How does equity release work?
To qualify, you need to be a UK homeowner, with the age of the youngest being over 55. If there is a mortgage on the property, this would need to be repaid either from one’s own funds, or from the equity release plan being applied for. You calculate how much equity you require & following advice from an equity release adviser a recommendation & application can follow.
The equity release plan continues to run until the last surviving partner has died or gone into care. At that point, the equity release company usually provides a 12 month window in which the balance needs to be repaid. This is usually achieved upon sale of the property, with any surplus monies being passed into the estate & / or distributed as instructed.
What types of equity release schemes are there?
Equity release is the generic term which embraces the two main types of schemes which are lifetime mortgages & home reversion plans. Currently, the market is derived mainly from the more flexible lifetime mortgage schemes, with home reversion plans accounting for less than 1% of the market.
Home Reversion Plans – start at age 65 & work by the homeowner deciding how much of their property they wish to sell to the reversion company in order to obtain a tax free lump sum of money. The percentage sold will be determined by the age, property value & the amount they require. Upon receipt of their lump sum, the homeowners have a lifetime tenancy agreement in place with no monthly payments required. Once the last person has died or gone into care, the property is sold with the homeowners' retained percentage of the property value being passed to the beneficiaries.
Lifetime Mortgage Schemes – an initial tax free lump sum is released from the property and a charge is placed on the title deeds by the lender. With lifetime mortgages 100% ownership of the property is retained. You are charged an interest rate on the amount borrowed which is fixed for life. The future balance will be determined by which type of scheme is selected & whether any repayments are made. There are many types of lifetime mortgage plans as follows:-
- Drawdown Lifetime Mortgage – is the most popular way of releasing equity. Based on age and property value, the lender will calculate how much of an overall facility you are permitted. From this pot, you can decide how much to take initially, with the unused element being retained by the lender as a cash reserve facility. This can be ‘tapped’ into in the future as & when finances require. The benefit of drawdown is that you are only charged interest on the amount actually withdrawn.
- Interest Only Lifetime Mortgage – Where traditional equity release involved the roll-up of interest, newer interest only plans enable you to repay on an interest only basis for the rest of your life. This will have the effect of maintaining a level balance, but still with the option of ceasing repayments & switching to roll-up should the need arise in the future. Following the introduction of MMR, these schemes are now subject to affordability checks and will require proof of income. However, they are becoming a popular option with people approaching retirement who need to redeem a conventional mortgage, or for those wanting equity, but who wish to protect their inheritance by controlling the balance.
- Enhanced Lifetime Mortgage – where a higher than standard release is required, or a lower interest rate, certain lenders can now take health & lifestyle into consideration. Similar to the principle of enhanced annuities, advising the lender of your health records can provide them with the information which may enable them to offer enhanced terms, where previously standard was insufficient. Useful for those looking for the highest release possible, largest cash reserve facility than normal, or those rate chasers looking to get the lowest interest rate around.
- Voluntary Repayment Lifetime Mortgage – by allowing voluntary repayments of up to 10% p.a. of the original amount borrowed, homeowners can decide how much inheritance they wish to leave by managing their balance. There are no monthly payments or affordability checks, thus ad-hoc payments can be made at any time to suit. Homeowners can elect to repay after 12 months, which could be to repay the interest only, or if choosing to repay the full 10%, the whole loan can actually be repaid over a period of time. Useful for those wanting flexibility & balance control.
- Retirement Mortgages – offer a solution to those wanting a more conventional mortgage in retirement, where traditional lenders will decline for age reasons. Based on income & affordability, retirement mortgage companies will offer an interest only or repayment basis mortgage usually with a fixed rate over a number of years. After this time the rate can be renegotiated or left on standard variable terms with no early repayment charges applying. Useful where there is certainty that the loan will be repaid some time in the future, or where guaranteed income will be sufficient to enable repayments to be continued for life.
What costs are involved in setting up an equity release scheme?
The costs are similar to any conventional mortgage arrangement.
- Valuation – a survey is required by the lender whose cost is determined by the price of the property
- Application fee – varies between lenders but can be anywhere between £500 upto £995
- Advice fee – charges vary between firms and is payable to the adviser for providing advice & helping process the application through to completion
- Solicitors fee – pays for the conveyancing work conducted by the homeowner's legal representative
There could be additional costs such as a closing administration fee when the loan is repaid, or additional legal work where title to the property needs amending, but the above are the main fees involved.
What purposes can equity release serve?
Absolutely anything within reason. The homeowner is free to spend their funds on anything that helps provide a more comfortable lifestyle. The main reasons people choose to release equity are as follows: -
- Home improvements
- Repayment of mortgage or consolidation of debts
- Holidays and cruises
- House purchase
- Gifts to the family
- New car or caravan
- Care fees & inheritance tax planning
Although the list is not exhaustive, equity release has become a solution to many people’s needs at or near retirement. With continued innovation from the providers they are set to become an even more popular mortgage vehicle in the future.
What consumer protection is in place?
Both lifetime mortgages & home reversion plans are regulated by the Financial Conduct Authority (FCA) and therefore any redress can be handled by the Financial Ombudsman. In addition, there is the Equity Release Council trade body which oversees the product features & provides a code of conduct on how these schemes are operated by lenders, advisers & solicitors. One of these is the no negative equity guarantee that all providers must incorporate into their plans. This ensures that no loan can ever be larger than the property value at the end of the day, thus ensuring beneficiaries cannot be left with a debt to themselves.
Other features that have helped dispel some of the myths about equity release are the layers of advice provided. All lenders make it mandatory that advice must be obtained, preferably independent equity release advice, before they will accept any application. This ensures that all options have been discussed, that consultation with the family has been advised, that a Key Facts Illustration has been provided showing the terms of the scheme recommended and that any means tested benefits that could be affected are highlighted.
Not only must advice be provided, but it is also mandatory that homeowners receive independent legal advice which must be obtained face-to-face. This is to check that no undue influence is being exhibited, for identity purposes & to check that the homeowner is fully aware of what they are entering into, with it being a lifetime commitment.
Products themselves are now more transparent. Interest rates are fixed for life which means that the future balance is guaranteed / known. Early repayment charges are shown on Key Facts Illustrations advising how they are calculated & the potential amount they can be.
Hopefully this information has given a general insight around the mechanics & uses of equity release mortgages. Newsworthy articles on equity release are commonplace & these plans are not for everyone. Therefore, it is essential that independent equity release advice is sought where the adviser has access to the whole of the market. This will become even more important with further innovation due and possibly new lenders entering the market place.
Information supplied by Mark Gregory CeMAP CeRER. Founder – Equity Release Supermarket
t: 0800 678 5955
These are lifetime mortgage and home reversion plans. To understand their features and risks, ask your adviser for a personalised illustration.