Once you have paid off your mortgage, you have 100% equity in your property – in other words, you own it entirely. But as the value of your home increases, there is no benefit for you in cash terms, as that extra value will not be turned into cash until the property is sold. If you never sell, it’ll be only your estate and your beneficiaries who will be better off.
So taking out one of these mortgages is an increasingly popular way for people aged 55 and over to benefit from the equity they have built up in their homes.
An equity release mortgage involves a lender giving you cash in return for a share in the proceeds of the sale of your property further down the line. But unlike with a traditional mortgage, which you pay back over a set term, an equity release loan is not settled until after you leave your home.
Some of these mortgages are portable and let you move home, and it’s usually only after you move into long-term care or die that the lender gets its money back.
It’s important to stress that equity release mortgages and remortgaging to free up equity are not the same thing. If you remortgage, you will have to make monthly payments to cover the cost of your borrowing and the interest.
You should take advice about whether equity release is suitable for you, and make sure you understand how these products will impact what you can leave to your loved ones. Many people find it best to tell their beneficiaries what they are doing so there are no nasty shocks when it comes to sorting out your estate.
There are two main types of equity release mortgages:
Home reversion mortgages
With a lifetime mortgage, you take out a loan secured against your property. Often, these loans require no repayments during your lifetime and the interest is simply added to the balance of the loan.
Once you have taken out a lifetime mortgage, the loan accrues interest. Some lenders allow you to pay off the interest each month but many people decide to let the interest build up.
Some lifetime mortgages pay you a single lump sum, while others allow drawdown, which means you access the cash in chunks as and when you need it. The benefit of a drawdown loan is that interest is charged only on the money that you have already released from your equity.
You are allowed to stay in your home and nothing is paid back to the lender until you move into a care home or die. At this point, your home is sold to pay off the debt and the interest.
There are strict conditions that must be met if you are to qualify for a lifetime mortgage. You must be at least 55 and own your property outright, and it must be your main residence. You can usually borrow up to 60% of its value.
Some lenders will allow you to pay off the interest to prevent it from accumulating. This is not the same as a retirement interest-only mortgage.
The Equity Release Council, which is the industry trade body, insists that all lifetime mortgages include a ‘no negative equity guarantee’. This means that if the value of your property falls and the money received when it is sold is not enough to repay the loan in full, neither you, your heirs nor your estate will need to stump up the difference.
A home reversion mortgage involves you selling some or all of your property to a home reversion provider. The provider pays you less than the current market rate but you maintain the right to continue living in your home for as long as you want.
Some home reversion mortgages give you a lump sum, while others give you regular income.
When you die or move into a care home, your property is sold and the lender takes its share of the selling price. If the value of the property has risen significantly, so will the value of the lender’s share.
You can move house, but the home reversion provider will need to deem the new property acceptable because the lender will effectively be a joint owner of the new home, and it will become the new security for the loan it has made to you.
Some providers restrict home reversion mortgages to people who are at least 60 or 65.
With a lifetime mortgage, you need to think about the effect of interest charges on the amount you owe. Unlike a traditional mortgage, which you pay off over the mortgage term, the interest period on a lifetime mortgage is open-ended and finishes only when you die or go into long-term care.
The average interest rate on lifetime mortgages is higher than for an ordinary repayment mortgage. This means that the debt builds up quicker, especially if you are rolling up the interest rather than paying it off.
With a home reversion mortgage, you need to bear in mind that if the value of your home doubles, so does the share of the mortgage provider.
There are various set-up charges associated with equity release mortgages.
To start with, you will have to pay an adviser. The good news here is that advisers who specialise in equity release must have a special qualification, which means the advice you are given should be comprehensive and up to date. Your adviser is also required to tell you if there are more appropriate options for you or if equity release is unsuitable in your circumstances.
Separately, lenders will normally charge a set-up fee for an equity release product, although these can be quite low.
There will also be legal costs. The lender needs to be sure that there is no one else with a charge on the property – it doesn’t want to find out only after you’ve gone that you were not the sole owner or that there are other lenders with an interest in the property.
And depending on when you bought the house, you might need to have the property listed with the Land Registry. Registering a property’s deeds was not always necessary until the 1980s, so it might turn out to be a delayed piece of admin you need to do now.
A different mortgage option that you could consider is a retirement interest-only (RIO) deal.
Alternatively, rather than using your home as a source of income, you could draw down on your pension instead. Pension freedoms introduced a few years ago mean you might be able to access your pension savings once you turn 55.
This will have an impact on your future pension income, and these sorts of decisions are usually irreversible, so make sure you take proper financial advice before going down this route.