There is something appealing about the prospect of obtaining a large sum of cash in one’s old age, at a time when one is no longer capable of earning an income by the usual means. Borrowing is one of the few options available to older people, those aged 55 years and above, for raising money for whatever reason. Equity release schemes provide a possible means for homeowners to secure a loan, using one’s home as an asset against which to borrow much-needed money. Given the seemingly increasing numbers of network television ads targeted at a captive afternoon audience of mostly older viewers, there seems to be no shortage of lenders, all able and willing to release equity (cash) to their older clientele.
Equity release is currently being marketed as a means whereby so-called cash-poor but asset-rich people can readily raise disposable income for a variety of reasons, all of their own choosing. Possible reasons for wanting to “unlock” the cash potential of one’s home may include supplementing meagre pensions with fixed regular monthly payments in the form of an annuity, funding the costs of social care, and home renovation or extension. The released cash may also be reinvested as a source of ongoing income, used to provide gifts of cash to one’s children or grandchildren, or help fund an enhanced lifestyle, including exotic holidays, going to the theatre, or simply eating out more often.
There are two major forms of equity release: a lifetime mortgage or a home reversion plan. A lifetime mortgage is available to people aged 55 years or above. The mortgage is taken out on between 20 per cent and 60 per cent of the market value of one’s main residence, of which one still retains ownership. The borrower continues to stay at home, and there are no monthly mortgage repayments, with some exceptions. He or she still has to pay council tax, utilities bills, and buildings insurance, and remains responsible for the maintenance, and repair, of the property as required. The initial loan, meanwhile, continues to grow relentlessly from day one. The interest rate on the loan, either fixed or variable with a cap on the upper limit, is quite high to begin with. Compound interest calculations on the loan mean that the debt grows exponentially, as interest has to be paid not only on the original loan but also on the accrued interest. All of this makes a lifetime mortgage much more expensive than an ordinary mortgage.
There is no fixed term date for a lifetime mortgage. The outstanding loan is only paid off when the homeowner dies or when the house is sold off, when the owner moves into long-term residential care. The final amount to be repaid can theoretically exceed the actual market value of the property, thereby creating a state of negative equity. Hence, accredited lenders provide a negative equity guarantee, meaning that there is no obligation to repay the outstanding loan, along with agents’ and solicitors’ fees, in full if the total amount left after the sale of the house is not enough to do so.
The second , and much less common, form of equity release is a home reversion plan, which is available to those aged 60 years and above. Usually, a part of one’s home is sold to a home reversion provider in return for a tax-free cash lump sum or for regular monthly payments. Again, you can continue to live in your home, while having to continue to meet the usual obligations of a homeowner.
There are many potential disadvantages of equity release. To start with, equity release is an expensive and lifetime commitment. Equity release schemes are frequently complex and carry high administration charges. Once committed, changing one’s mind can be expensive, as reflected in punitive early repayment penalties. There are hidden costs, including fees for financial and legal advice and a mortgage arrangement fee. Tax may have to be paid on any financial gains from released cash, such as savings account interest payments, investment income, or any regular income in the form of an annuity. These financial gains may also affect any existing entitlements to means-tested welfare payments and benefits.
As has been shown with other parts of the financial services industry, regulation is necessary to avoid unpleasant surprises. Equity release schemes are thus regulated by the Financial Conduct Authority (FCA). Providers of equity release services also set up their own regulatory body in 1991. The Equity Release Council provides a code of practice for its members and administers complaints and disciplinary procedures in order to protect the general public.
Equity release is nothing more than a way of obtaining credit at the cost of creating new debt. This may suit people without any heirs, who do not have to worry about reducing their estate and thus their inheritance. But no two financial situations are exactly similar. Hence all those wishing to release equity from their properties must obtain the advice of an FCA-regulated financial adviser. Besides, there are other options to be considered, such as selling one’s home outright and moving to a smaller house or to a new locality. Some people may choose to borrow from a relative or friend rather than go down the equity release route. As with any major decision in one’s life, all options have to be carefully weighed up. After all, the providers of equity release are not in the business for purely altruistic reasons. Caution and careful contemplation are essential before taking the plunge. You have been warned!
Ashis Banerjee