Equity Release
An equity release plan can enable homeowners to raise capital secured on their home, with no restrictions on how the capital is used for legal purposes.
There are two types of equity release scheme:
Lifetime Mortgages
These are interest-only mortgages, with a rate of interest which is fixed (or capped) for life, but there is no fixed repayment period. Interest rolls up until capital is repaid, on death, on moving into Long Term Care, or on the sale of the property. Then, capital and interest are repaid and the balance of the value of the home goes to the estate.
Homeowners receive an amount of money on completion of the mortgage, which can be taken in the form of a lump sum, an income or a mixture of both. If income is required, the financial adviser will review the rates offered by competing lenders. The amount of the loan will then be dictated by the amount of income required. Some lenders allow the loan to be drawn down in slices, so that interest is only paid on what has been drawn.
This arrangement also avoids Income Tax, because each payment received is an advance of capital.The maximum amount of the loan is determined by the age of the homeowner. Over an extended loan period the combined value of capital and interest could exceed the value of the home, particularly if house prices stagnate.
Also, unlike reversion schemes, only the homeowner benefits from any increase in house prices. Homeowners rely on increases in value to pay for the rolled-up interest on their loans. However, the amount which will be owed by the plan holder’s estate to the provider cannot be predicted, because it depends on a number of factors, including the length of time the plan holder lives, the level of interest rates and the degree of house price inflation.
The Consumers’ Association has calculated that plan holders could end up owing more than six times the amount they borrow if they live a long time. So, clients with a family history of longevity might be better suited by reversion schemes. Conversely, if the homeowner dies only one month after taking out a lifetime mortgage, then only one month’s interest plus the amount of the loan is payable.
It has been calculated that, subject to age factors and interest rates, if house prices increase by more than 2.5% pa the estate of a homeowner is likely to receive more from a lifetime mortgage arrangement than a reversion scheme.
Reversion Schemes
These schemes allow homeowners to sell all or part of their property to a reversion company. The provider either pays a lump sum when the transaction is completed, or pays a regular annuity income for the life of the homeowner.
The value received depends on the age of the homeowner, but it will always be much less than the value of the property, because no rent is payable by the homeowner and the provider has to wait until the plan holder’s death before recovering the value of its investment.
The longer the homeowner lives, the better the deal becomes from their point of view. People in poor health can secure more favourable terms. When eventually the property is sold, the reversion company keeps the sale value of its share, while the value of the retained share goes to the estate of the homeowner.
The main advantage of these schemes is certainty. The homeowner has a clear idea of the final cost when entering into the plan. It is based on a percentage of the value of the property.
The balance of the value, if any, of the property will be retained for the benefit of the homeowner’s estate. Disadvantages are that the homeowner will lose out if either he or she dies prematurely or house prices rise significantly.
If the plan is taken out by a single person, their home will be sold when they die and the plan holder’s proportion of the value of the property will pass into their estate. When the plan is taken out by a couple, it will be arranged on a joint life basis and the property will not be sold until after the second death.
Some reversion schemes are portable, but there can be difficulties if the homeowner decides to move to a less valuable property, and in any event the new property will need to meet the reversion company’s criteria.
In Summary
Reversion schemes favour clients who live longer. Reversion schemes provide greater certainty as to the costs and benefits.
Lifetime mortgages offer more flexibility than reversion schemes as to the ways in which payments can be made to the homebuyer.
If house prices increase by more than 2.5% pa, lifetime mortgages are likely to leave more of the property value for the homeowner’s estate.
Safe Home Income Plans (“SHIP”) conditions
SHIP is a company supported by the leading providers of home income and equity release plans. It was launched in 1991 and is dedicated entirely to the protection of plan holders and promotion of safe home income and equity release plans. Equity release companies which are members of SHIP agree to disclose in their literature all costs, the position on moving, tax liabilities and the effect of changing house values on the scheme.
The client’s legal work will always be performed by the solicitor of their choice. The solicitor will not be chosen by the product provider. The solicitor must sign a certificate to show that the scheme was explained to the client.
Lifetime mortgage schemes carry a “no negative equity” guarantee. These guarantees ensure that the cost of the loan plus accrued interest at the death of the planholder will never exceed the value of the property.
Please note that the Consumers’ Association has suggested that Equity Release schemes should be regarded as “an option of last resort”.
A LIFETIME MORTGAGE IS AN EQUITY RELEASE PRODUCT. TO UNDERSTAND THE FEATURES AND RISKS, ASK FOR A PERSONALISED ILLUSTRATION.
