Types of equity release

The types of equity release plans explained

With a growing population comes an increasing number of older homeowners working out ways to manage their retirement finances, and many different options are available to them.

One popular option is an equity release scheme. This is a means for eligible homeowners, aged 55 and over, to access a percentage of the money they have locked in their homes – without having to move. 

Although a lot of people are still unsure about going down the equity release route because of all the horror stories still floating around, the fact is that the equity release market is the safest it has ever been.

Thanks to the safeguards implemented by the Equity Release Council, equity release products continue to advance and now have a variety of extra features available, such as the option to make regular payments towards the interest and being able to access your money in instalments. Another feature that appeals to people who are worried about the amount they leave behind is called ‘inheritance protection’.

Just for clarity, you will see and hear people referring to equity release as both plans and schemes – they mean the same thing. You need to consider the type of equity release that they are referring to. Equity release plans (or schemes) are classified into lifetime mortgages and home reversion plans. 

What is the difference between a lifetime mortgage and a home reversion plan?

The most important difference between the two types is that lifetime mortgages are secured against your property but you keep full ownership, while with a home reversion plan, you are required to sell a percentage of your home.

How does each of the different types of equity release scheme work?

Lifetime mortgages

The most popular type of equity release scheme is the lifetime mortgage. As the name suggests, this is a long-term product that is designed to run for the duration of your lifetime.

A lifetime mortgage allows you to take out a loan against the value of your home and you are not required to make any repayments until you die or you move into long-term care. You are also free to spend the money you release on whatever you wish. 

Lifetime mortgage products have advanced over recent years and now offer a wide range of extra choices, resulting in a more customisable and tailored product for the consumer.

If you’re interested to see how much you might be able to get, you can use our free equity release calculator. No personal details are required to use it so you are safe from any sales calls or emails.

Lump sum lifetime mortgages

As the name suggests, a lump sum lifetime mortgage provides you with a single tax-free cash lump sum that is secured against the value of your home. With a lump sum lifetime mortgage, you can spend all the money straight away if required, you can fix the interest rate for the duration of the plan and you have the option of making repayments if you choose to reduce the amount of interest accrued.

Drawdown lifetime mortgages

Drawdown lifetime mortgages are a popular choice for people choosing equity release schemes [1]

With this type of lifetime mortgage, you will get an initial advance for the funds you require now and a pre-agreed reserve facility you can take as and when you need it.

Interest on a drawdown lifetime mortgage is only applied to money that you withdraw, not in reserve, so it can substantially reduce the overall costs. A big reason why people choose this type of equity release plan is it allows you to remain within means-tested benefits thresholds, so it won’t affect your entitlement to state benefits.

Interest-only lifetime mortgages

An interest-only lifetime mortgage is a type of equity release scheme where you have the option to make monthly payments toward the interest. They function in a similar way to a regular residential interest-only mortgage, in the way that as you pay off the interest, the overall cost of your borrowing decreases. 

Home reversion plans

Home reversion plans are the least popular type of equity release. They require you to sell all or part of your home in return for a cash lump sum, a regular income, or a combination of both. Home reversion plans give you the right to live in your home, rent-free until you die or go into long-term care.

When the plan ends your house will be sold, and the reversion provider will take its share of the proceeds. If you sold your entire property through reversion, then all of the proceeds of the sale would go to the provider. If you only sold a percentage of your property, then the provider will take their share and your beneficiaries will receive any that is left. 

The main downsides of a home reversion plan are that you usually only receive between 20% and 60% of your home’s actual market value and you no longer have full ownership of your home. This is why most people opt for a lifetime mortgage instead.

What safeguards are in place to protect you?

The no negative equity guarantee

All lifetime mortgages which meet the Equity Release Council standards include a no-negative equity guarantee. When you take out an equity release plan, should your property have a significant decrease in value, it may be that there are not enough funds from the sale to repay the equity release. If this happens then the maximum amount your provider could request is the value the property sold for, minus any costs of selling.

The ‘no negative equity guarantee’ means that equity release providers will waive the remaining balance, and this ensures that no debt will be passed on to your beneficiaries.

Downsizing protection

You might have a lifetime mortgage on your current main residence and decide that you want to downsize. If that happens then, subject to your equity release provider’s terms and eligibility, you may be able to transfer the lifetime mortgage to a new property or pay off the equity release on your current property first. If you choose to repay the lifetime mortgage, you may be subject to an Early Repayment Charge. It should be noted that different providers have different terms for downsizing protection. 

Inheritance protection

Inheritance protection is a feature of a lifetime mortgage that allows you to guarantee an inheritance for your beneficiaries after the lifetime mortgage has been repaid. It allows you to reserve a portion of your home to leave to your beneficiaries. Inheritance-protected lifetime mortgages usually require you to pay a premium, and it should be noted that the maximum amount that you are permitted to release will be reduced.

Can you be refused equity release?

Equity release is a popular way for homeowners to access the equity tied up in their property and receive extra funds to pay off debts, fund their lifestyle, or make home improvements. However, not everyone who applies for equity release will be approved. Here are some of the reasons why an equity release application might be refused:

• Age restrictions: To be eligible for equity release, you (or the youngest homeowner) must be aged 55 or over. If you’re younger than 55, your application will be refused.
• Property value: Equity release providers will only lend against homes that are worth at least £75,000. If your home is worth less than this, your application will be refused.
• Health and lifestyle factors: Some equity release providers offer medically enhanced rates, which take into account your overall health and lifestyle. If your health or lifestyle is deemed too risky, your application might be refused.
• Unsuitable property: Equity release is only available for homes that are your main residence in the UK (excluding the Channel Islands and Isle of Man). If you’re looking to release equity from a second home, holiday home, or buy-to-let property, your application might be refused.
• Unsatisfactory credit history: Like with any loan, lenders will check your credit history to assess your ability to repay the loan. If you have a poor credit history, your application might be refused.
• Existing debts: If you have significant outstanding debts, your application might be refused as lenders are unlikely to lend you money if they think you won’t be able to repay it.
• Unsuitable type of equity release: There are two types of equity release – lifetime mortgages and home reversion plans. If you apply for the wrong type of equity release, your application might be refused.

There are several reasons why an equity release application might be refused. It’s important to make sure you’re eligible, have a suitable property, and have a good credit history before applying. If you’re unsure whether you’re eligible or want to explore other alternatives to equity release, such as remortgaging, it’s a good idea to seek professional advice from an Equity Release Council-approved adviser. They can help you understand the implications and risks involved and ensure you make the right decision for your circumstances.

How popular are each of the equity release schemes?

Data Source: https://www.keyadvice.co.uk/about/market-monitor