Retired people struggling with low savings rates, debts or the spiralling cost of care are increasingly releasing equity from their homes to raise extra cash.But this does carry potential pitfalls. Here, Lauren Thompson explains how equity release works and when it can be the right solution...
What is equity release?
Equity release is a way for homeowners to raise extra cash in retirement. It is available only to those who own their home outright and are aged 55 or over.
You can receive a lump sum or take regular or occasional income and stay in your home until you die.
But your children and any other beneficiaries will receive less money when you die. This can make it popular with the elderly, but less so with their offspring.
The average amount of equity released is £47,323, according to Safe Home Income Plans (SHIP) — an organisation for firms whose plans meet certain standards which ensure customers are treated fairly.
Cash is most commonly used for home improvements, paying off debts or going on a dream holiday.
There are two types of equity release plan — a lifetime mortgage, and a home reversion plan. The majority of people opt for lifetime mortgages.However, the number of people actually using equity release remains relatively low.
In the past ten years, 123,000 households have released equity, according to SHIP.
Issues to consider
There are generally three things that make people wary of equity release: their reluctance to reduce an inheritance left to loved ones; anxiety that it could be risky, poor value or complicated; and concern it may reduce entitlement to means-tested benefits.
It is the first of these that can cause real problems for families. So you MUST discuss plans with your beneficiaries.
There have been major problems with equity release in the past. In 1998 Barclays and Bank of Scotland sold shared appreciation mortgages, a type of equity release where the customer borrowed a percentage of the value of their home and agreed to repay the same percentage when it was sold.
These were hugely popular to begin with, but borrowers never realised how sharp increases in house prices would affect them.
As a result, many found themselves unable to move because they would lose a huge chunk of their property to the mortgage company — often five or six times what they originally borrowed. Banks no longer sell these types of mortgage.
Equity release companies are much more respectable than in the past. Make sure you choose a provider that is a member of SHIP.
Its strict code of practice guarantees no customer will be forced to leave their home or owe more than their property is worth.
Since 2004, the FSA has regulated all equity release providers and brokers — so before dealing with anyone, make sure they are on the FSA register www.fsa.gov.uk or call 0845 606 1234.
Lifetime mortgage: How does it work?
A lifetime mortgage allows you to borrow money from your property as a lump sum or take occasional or regular amounts.
The money is borrowed at a fixed rate for life, for example 7 per cent. You never have to make any repayments during your lifetime. Instead, the money you have borrowed is paid back from the proceeds of the sale of your home, usually when you die or go into care.
This sounds ideal, but it can be an expensive way to borrow over the long term because the interest ‘rolls up’, so that each month you pay interest on any interest already accrued as well as the balance — this is known as compound interest.
What you owe could double in 11 years, which seriously erodes the equity in the property. For example, if you borrowed £50,000, 11 years later the debt would be £100,000 and in another 11 years £200,000.
For this reason the younger you are, the less you will be able to borrow. A 65-year-old could only be able to borrow up to 33 per cent of the value of their home. Whereas an 80-year-old could borrow up to 48 per cent, according to broker Key Retirement Solutions.
So, if a 65-year-old owns a house worth £150,000 today and borrows 30 per cent, £45,000, in 20 years the debt would have ballooned to more than the current value of the house, £180,000.
It is possible to remortgage at a better rate, but some deals charge a fee - often equivalent to 5 per cent of your debt - if you leave them in the first five or ten years.
Bear in mind you will need to pay around £1,500 to set up an equity release plan to cover the arrangement fee, valuation and legal fees.
What are the risks?
You really need to consider the impact of house prices and how that may affect any inheritance you wanted to pass on.
In the past, property values have climbed steeply — the average price has increased by 106 per cent in the past 11 years, according to Land Registry figures, from £79,357 in 2000 to £163,585 in 2011.
But many economists believe prices will be flat now, and may even fall sharply, over the next few years.
If they do increase you may build up some more equity to leave to your family, even after loan repayments have been taken into account.
If they don’t then you may have to prepare your family for the fact they will have no inheritance.
This is why you need to ensure you take out a loan only through a SHIP registered company, as these guarantee that the amount of loan repayable will never be more than the value of the house.
Remember that releasing equity from your home may also hit your means-tested benefits, as your savings can count towards these.
If you have income of less than £137.35 a week if you are single, or £209.70 if you are a couple, you can claim pension credit.
However, those with savings of more than £10,000 are judged to get an extra £1 a week income for every additional £500 they have saved.
So, a single pensioner with an income of £136 a week but with £11,000 of savings would be judged to have a total income of £138 a week and may lose the right to have pension credit.
Home reversions: How does it work?
With a home reversion, you sell all or a percentage of your property in exchange for a lump sum.
For this reason they have been popular among those doing inheritance tax planning, as the size of your estate will effectively be reduced.
After getting your cash lump sum, you will be allowed to remain in your home, rent free, until you die or you move into long-term care.
However, you will not receive the full market value of your property. What you get will vary depending on your age, the value of your property and your health.
The longer you are expected to live, the less you will receive. For example, take a healthy 65-year-old male who owns a £150,000 home. If he sold the entire property to a home reversion company, he could expect to receive just 43 per cent of the property’s value — a £64,500 lump sum, according to Key Retirement Solutions. If he chooses to release 50 per cent of his property’s equity, he would receive £32,250.
Upon death, the house will be sold and the home reversion company would pocket half of the sale price, with the beneficiaries getting the other half.
If a 65-year-old couple live in the property they can expect to receive an even lower market value — around 35 per cent, or £52,500 — simply because there is more chance of one of them living longer. The property is only sold on the death of the last partner.
Properties are valued by an independent surveyor, who is chosen by the equity release provider. It may be worth getting a few other valuations from local estate agents to ensure that the surveyor is quoting a fair price.
What are the risks?
Reversion plans have come in for much criticism in the past — as they can result in families losing a huge stake in their home in exchange for very little cash.
Families don’t like discovering that a company can take half of their parents’ property which sells for £200,000, when that firm has only paid £32,250 for their £100,000 stake.
Reversion plans used to be unregulated, and as a result pushy salesmen were able to convince pensioners to give up large stakes of their property for tiny sums.
Today, reversion schemes are regulated by the City regulator and so companies have cleaned up their act. The vast majority of people who release equity spend their money quickly, according to SHIP.
It is not usually a good idea to invest the money or buy an annuity with it, since you are unlikely to receive a greater income than the amount of interest you are being charged.
Getting advice
Anyone considering equity release should always go to an independent financial adviser who specialises in equity release (www.unbiased.co.uk lists advisers in your area).
Avoid salesmen who are just selling the product from one company.
Other options
With savings rates low and pensions falling in value, older people will increasingly need to raise large lump sums to help fund their retirement.
If you need to raise cash, make sure you consider all your options. You could sell your home and move to somewhere smaller, but this in itself can be expensive.
Selling a home worth £400,000 would mean paying between £4,000 and £6,000 estate agents fees. And if you bought a new home for £280,000 you would be charged £8,400 stamp duty and moving costs on top.
Also, it may not be practical to move away from friends and family.
If you need the money for a new boiler or to adapt your home for disabled living, you may be able to get help from your energy company or a grant from your local authority.
Also, check you are receiving all the benefits to which you are entitled. Age UK will do a free ‘benefit check’ at www.ageuk.org.uk or if you call 0800 169 6565.
For more information on equity release and the questions to ask, go to www.thisismoney.co.uk/release.
CASE STUDIES
'I bought a new car'
Barbara Crawford, 71, says equity release changed her life ‘for the better’ after she freed up £27,000 worth of cash from her home.
Mrs Crawford, who is divorced with three children, lives in a three-bedroom terrace house worth £180,000 in Swansea, South Wales.
She used the money to pay off a bank loan, buy a new Volkswagen car and help out her children with various home improvements. ‘I also keep some of the money in a savings account for emergencies,’ she says. ‘I have lived in the house for 28 years and I’d like to stay here for as long as I’m able. I discussed my plans with my children first and they were very happy for me to go ahead,’ says the retired hairdresser (pictured with her grandson Casey, 22).
Mrs Crawford’s equity release plan is with Aviva at 6.5 per cent.
'We both took out cash'
The £38,000 released from her home allowed Karen Jarvis to have a hole in her roof fixed and to take a holiday with her mother.
Mrs Jarvis, 58, had water coming through her bedroom ceiling at her semi-detached house in Dorset.
She has lived in the house, worth £225,000, for about 30 years. ‘I couldn’t afford to get the leak fixed, and I couldn’t move house to downsize until the problem was sorted out,’ she says.
She went to Key Retirement Solutions, a broker, who found her a deal, charging 6.6 per cent interest.
She used the money to fix her roof, install a new kitchen, pay for eye surgery for her son and take a holiday to Scotland.
Her mother, Doreen Parks, 78, (left) has released equity three times from her £119,000 home, totalling £20,000.
She has a plan with LV= at 7.09 per cent, and says she is delighted with the extra cash. ‘I’ve bought a new car and had my bedroom redecorated,’ says Mrs Parks.
In the past ten years, 123,000 households have released equity, according to SHIP.
Issues to consider
There are generally three things that make people wary of equity release: their reluctance to reduce an inheritance left to loved ones; anxiety that it could be risky, poor value or complicated; and concern it may reduce entitlement to means-tested benefits.
It is the first of these that can cause real problems for families. So you MUST discuss plans with your beneficiaries.
There have been major problems with equity release in the past. In 1998 Barclays and Bank of Scotland sold shared appreciation mortgages, a type of equity release where the customer borrowed a percentage of the value of their home and agreed to repay the same percentage when it was sold.
These were hugely popular to begin with, but borrowers never realised how sharp increases in house prices would affect them.
As a result, many found themselves unable to move because they would lose a huge chunk of their property to the mortgage company — often five or six times what they originally borrowed. Banks no longer sell these types of mortgage.
Equity release companies are much more respectable than in the past. Make sure you choose a provider that is a member of SHIP.
Its strict code of practice guarantees no customer will be forced to leave their home or owe more than their property is worth.
Since 2004, the FSA has regulated all equity release providers and brokers — so before dealing with anyone, make sure they are on the FSA register www.fsa.gov.uk or call 0845 606 1234.
Lifetime mortgage: How does it work?
A lifetime mortgage allows you to borrow money from your property as a lump sum or take occasional or regular amounts.
The money is borrowed at a fixed rate for life, for example 7 per cent. You never have to make any repayments during your lifetime. Instead, the money you have borrowed is paid back from the proceeds of the sale of your home, usually when you die or go into care.
This sounds ideal, but it can be an expensive way to borrow over the long term because the interest ‘rolls up’, so that each month you pay interest on any interest already accrued as well as the balance — this is known as compound interest.
What you owe could double in 11 years, which seriously erodes the equity in the property. For example, if you borrowed £50,000, 11 years later the debt would be £100,000 and in another 11 years £200,000.
For this reason the younger you are, the less you will be able to borrow. A 65-year-old could only be able to borrow up to 33 per cent of the value of their home. Whereas an 80-year-old could borrow up to 48 per cent, according to broker Key Retirement Solutions.
So, if a 65-year-old owns a house worth £150,000 today and borrows 30 per cent, £45,000, in 20 years the debt would have ballooned to more than the current value of the house, £180,000.
It is possible to remortgage at a better rate, but some deals charge a fee - often equivalent to 5 per cent of your debt - if you leave them in the first five or ten years.
Bear in mind you will need to pay around £1,500 to set up an equity release plan to cover the arrangement fee, valuation and legal fees.
What are the risks?
You really need to consider the impact of house prices and how that may affect any inheritance you wanted to pass on.
In the past, property values have climbed steeply — the average price has increased by 106 per cent in the past 11 years, according to Land Registry figures, from £79,357 in 2000 to £163,585 in 2011.
But many economists believe prices will be flat now, and may even fall sharply, over the next few years.
If they do increase you may build up some more equity to leave to your family, even after loan repayments have been taken into account.
If they don’t then you may have to prepare your family for the fact they will have no inheritance.
This is why you need to ensure you take out a loan only through a SHIP registered company, as these guarantee that the amount of loan repayable will never be more than the value of the house.
Remember that releasing equity from your home may also hit your means-tested benefits, as your savings can count towards these.
If you have income of less than £137.35 a week if you are single, or £209.70 if you are a couple, you can claim pension credit.
However, those with savings of more than £10,000 are judged to get an extra £1 a week income for every additional £500 they have saved.
So, a single pensioner with an income of £136 a week but with £11,000 of savings would be judged to have a total income of £138 a week and may lose the right to have pension credit.
Home reversions: How does it work?
With a home reversion, you sell all or a percentage of your property in exchange for a lump sum.
For this reason they have been popular among those doing inheritance tax planning, as the size of your estate will effectively be reduced.
After getting your cash lump sum, you will be allowed to remain in your home, rent free, until you die or you move into long-term care.
However, you will not receive the full market value of your property. What you get will vary depending on your age, the value of your property and your health.
The longer you are expected to live, the less you will receive. For example, take a healthy 65-year-old male who owns a £150,000 home. If he sold the entire property to a home reversion company, he could expect to receive just 43 per cent of the property’s value — a £64,500 lump sum, according to Key Retirement Solutions. If he chooses to release 50 per cent of his property’s equity, he would receive £32,250.
Upon death, the house will be sold and the home reversion company would pocket half of the sale price, with the beneficiaries getting the other half.
If a 65-year-old couple live in the property they can expect to receive an even lower market value — around 35 per cent, or £52,500 — simply because there is more chance of one of them living longer. The property is only sold on the death of the last partner.
Properties are valued by an independent surveyor, who is chosen by the equity release provider. It may be worth getting a few other valuations from local estate agents to ensure that the surveyor is quoting a fair price.
Reversion plans have come in for much criticism in the past — as they can result in families losing a huge stake in their home in exchange for very little cash.
Families don’t like discovering that a company can take half of their parents’ property which sells for £200,000, when that firm has only paid £32,250 for their £100,000 stake.
Reversion plans used to be unregulated, and as a result pushy salesmen were able to convince pensioners to give up large stakes of their property for tiny sums.
Today, reversion schemes are regulated by the City regulator and so companies have cleaned up their act. The vast majority of people who release equity spend their money quickly, according to SHIP.
It is not usually a good idea to invest the money or buy an annuity with it, since you are unlikely to receive a greater income than the amount of interest you are being charged.
Getting advice
Anyone considering equity release should always go to an independent financial adviser who specialises in equity release (www.unbiased.co.uk lists advisers in your area).
Avoid salesmen who are just selling the product from one company.
Other options
With savings rates low and pensions falling in value, older people will increasingly need to raise large lump sums to help fund their retirement.
If you need to raise cash, make sure you consider all your options. You could sell your home and move to somewhere smaller, but this in itself can be expensive.
Selling a home worth £400,000 would mean paying between £4,000 and £6,000 estate agents fees. And if you bought a new home for £280,000 you would be charged £8,400 stamp duty and moving costs on top.
Also, it may not be practical to move away from friends and family.
If you need the money for a new boiler or to adapt your home for disabled living, you may be able to get help from your energy company or a grant from your local authority.
Also, check you are receiving all the benefits to which you are entitled. Age UK will do a free ‘benefit check’ at www.ageuk.org.uk or if you call 0800 169 6565.
For more information on equity release and the questions to ask, go to www.thisismoney.co.uk/release.
CASE STUDIES
'I bought a new car'
Barbara Crawford, 71, says equity release changed her life ‘for the better’ after she freed up £27,000 worth of cash from her home.
Mrs Crawford, who is divorced with three children, lives in a three-bedroom terrace house worth £180,000 in Swansea, South Wales.
She used the money to pay off a bank loan, buy a new Volkswagen car and help out her children with various home improvements. ‘I also keep some of the money in a savings account for emergencies,’ she says. ‘I have lived in the house for 28 years and I’d like to stay here for as long as I’m able. I discussed my plans with my children first and they were very happy for me to go ahead,’ says the retired hairdresser (pictured with her grandson Casey, 22).
Mrs Crawford’s equity release plan is with Aviva at 6.5 per cent.
'We both took out cash'
The £38,000 released from her home allowed Karen Jarvis to have a hole in her roof fixed and to take a holiday with her mother.
Mrs Jarvis, 58, had water coming through her bedroom ceiling at her semi-detached house in Dorset.
She has lived in the house, worth £225,000, for about 30 years. ‘I couldn’t afford to get the leak fixed, and I couldn’t move house to downsize until the problem was sorted out,’ she says.
She went to Key Retirement Solutions, a broker, who found her a deal, charging 6.6 per cent interest.
She used the money to fix her roof, install a new kitchen, pay for eye surgery for her son and take a holiday to Scotland.
Her mother, Doreen Parks, 78, (left) has released equity three times from her £119,000 home, totalling £20,000.
She has a plan with LV= at 7.09 per cent, and says she is delighted with the extra cash. ‘I’ve bought a new car and had my bedroom redecorated,’ says Mrs Parks.
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