Using your home as a cash machine to help fund your retirement is becoming an increasingly mainstream option. It emerged this week that schemes which allow older people to unlock some of the value tied up in their property are enjoying record take-up. So should you take the plunge?
New industry figures reveal that “equity release” lending totalled £384m during the period 1 April to 30 June this year. This is the highest figure for any quarter since records began, according to the main trade body, and means homeowners aged 55-plus are withdrawing a total of £4.2m a day from their homes.
Equity release is a way of freeing up money from your home that usually involves older people taking out a special type of mortgage or selling part, or all, of the property. It has been around for some time, but has evolved over the years.
Some experts had predicted that the new freedoms on how people can spend their pension money, which took effect in April, might make equity release less popular. But so far the opposite has happened. Continuing house price growth seems to have made people more comfortable about dipping into their home’s value. Only this week, official Land Registry data revealed that house prices in England and Wales have climbed to a new record high. And the negative image once associated with these schemes appears to have diminished.
But equity release can prove a very expensive way of borrowing, particularly if you live to a ripe old age. That’s because the way these schemes typically work means you end up paying interest on interest, and over 20 years, say, the total owed can easily double and maybe even triple (see below).
That said, interest rates have in many cases fallen, making these schemes cheaper than before.
First, a “wealth warning” Before you think about equity release, consider all the alternatives. For most older people, the most financially effective way of releasing equity will be to move to a smaller property or a cheaper part of the country. Alternatively, some people will have other savings or assets they can use, while there is sometimes help available for people who need alterations made to their home. Or how about renting out a room? Last month, George Osborne announced that from April 2016, homeowners will be able to receive up to £7,500 in rent from lodgers without having to pay tax, compared with the current “rent a room” limit of £4,250.
How the schemes work Equity release is a way for older people – the minimum age is usually 55, sometimes 60 – to get cash out of their property without the need to move home. In most, if not all, cases there are no monthly repayments to make.
The most common schemes are mortgage-based products secured against your home and repaid – usually from the sale of the property – when you die or go into long-term care. These are known as “lifetime mortgages,” and they allow you to take out a loan on your property in return for a cash lump sum, or regular smaller sums. This money can usually be spent on whatever you want. You continue to own your own home, and you retain responsibility for maintaining it and paying the bills. The big “but” is that they charge interest on the total amount of the loan, including the interest that has already accumulated.
The most popular sort of lifetime mortgage is the “drawdown” version, designed for those who don’t need a large lump sum at the outset. Instead, a pot of money is set aside for you to draw from, as and when you need it – so you can use it to supplement your income. You only pay interest on the cash you release, which could save you money and allow more to be left as part of your estate.
How much? The amount you can borrow usually depends on your age, the value of your property and sometimes your health. Someone aged 71 with a £300,000 house could typically borrow a maximum of £120,000 from Just Retirement, or £111,000 from Aviva, according to calculators on their websites. If you have certain medical conditions, you may be able to borrow a higher proportion of your property’s value or obtain a better interest rate via an “enhanced” plan.
Many lifetime mortgage providers, including Aviva, allow people to protect a percentage of the value of their property as an inheritance. But opting for an “inheritance guarantee” will reduce the amount you can borrow and may affect the interest charged.
How old? The “core” age group for those signing up to equity release tends to be 65 to 75. However, Dean Mirfin at independent specialist firm Key Retirement says: “Equity release customers are getting older – the average age rose to 71 in 2015, from 69 previously.”
Because the interest on a lifetime mortgage “rolls up”, there is a strong argument for saying that the older you are, the better.
The providers Companies offering lifetime mortgages include market leader Aviva, Just Retirement, LV= (Liverpool Victoria), More 2 Life and Legal & General, which entered the market earlier this year and has been offering some competitive rates. You will usually be referred to a specialist adviser/broker who can go through all the pros and cons. It’s a big deal, so you should involve your family in the discussions.
What people do with the money In a report published last month, Key Retirement said the average customer is currently releasing almost £68,500 – though the typical figure for London is a lot higher at £142,650. It found that 58% of customers use some or all of the cash they have released to improve their home or garden (new kitchen/bathroom/extension/conservatory and so on) while 28% use it to pay for holidays. Some give a chunk of the cash to children or grandchildren to help towards a deposit on a home. Perhaps worryingly, growing numbers of older people are using the money to pay off mortgages, credit cards and loans.
The downsides All members of the main trade body, the Equity Release Council, offer a “no negative equity guarantee,” which means that, no matter what happens to the housing market, customers will never owe more than the value of their home. But that could still mean your family is left with little or nothing from your property when you die. As LV= puts it, “The loan plus interest can grow very quickly – there will be less and in some cases no inheritance to leave to family ... If you live a long time, with a lifetime mortgage all the equity in the property could be wiped out.”
Also, releasing cash from your home may reduce your right to state benefits.
And don’t forget the fees. Expect to fork out around £2,000 to cover advice, the property valuation, legal fees and so on, though Mirfin adds: “It can work out less because some providers will do cashback and free surveys.”
Alternatively ... There is another type of equity release: the home reversion plan. With these, you sell all or part of your home to a company in return for a lump sum or regular income, and the right to remain living there. But home reversion plans account for less than 1% of the overall market.
Number-crunching
Assume a couple, both 71, have a £350,000 house and want to release £60,000.
Key Retirement did some number-crunching for us, and looked at two scenarios: releasing this amount as a lump sum upfront, or releasing an initial £20,000, and then withdrawing four lots of £10,000 over the next few years (at the end of years three, five, eight and 10).
It says Legal & General is offering one of the best interest rates: 5.13%. This is available through specialist advisers.
Under the first scenario (the £60,000 lump sum), the total amount owing – the loan plus interest – would be £77,493 after five years, and would have grown to £100,086 after 10 years. After 20 years it would have swelled to £166,953.
Under the second scenario (the drawdown one: £20,000, then 4 x £10,000), the amounts owed would be lower: £46,909 after five years, £81,662 after 10 years, and £136,220 after 20 years.
