How Do Equity Release Mortgages Work?

In this article, you'll learn about equity release, its types, benefits, and more.

Updated: June 13, 2024
Matt Crabtree

Written By

Matt Crabtree

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If you want to make some tax-free cash on the value of your home, consider applying for an equity release. You can get an equity release if you're a homeowner aged 55 or above, and it's a great option if you require a lump sum but still want to continue living in your home.

People use equity-release products for numerous reasons, from fulfilling a lifelong dream of travelling the world to giving themselves a more promising retirement income for later life. Whatever your reason for raising cash, an equity release mortgage may be your answer.

What is Equity Release?

Equity is your home's value, the mortgage's total and any loan secured on the property.

So, if the value of your home is £250,000 and the outstanding amount on an existing mortgage you owe is £50,000, then your equity is £200,000.

For a more accurate equity release cost, you can use an equity release calculator to give you an idea of your property value and what equity you may be entitled to.

Equity release is an agreement allowing you to access money from your home's equity without leaving the home. Equity release is a popular way to access a tax-free lump sum while maintaining homeownership.

Depending on the equity release advice you receive from your financial adviser and your equity release agreement, you can receive your equity release loan either in a lump sum or monthly payments.

All equity release schemes must be registered with the Financial Conduct Authority (FCA) and comply with the Equity Release Council (ERC).

The FCA regulates all equity release products. All schemes, lenders, brokers, and advisers must be FCA authorised to conduct business. So, it’s essential you check this before signing any agreement. 

As well as being FCA compliant, there are standards set by the ERC that need to be met. The ERC is a trade body that represents members of the industry. All equity release products have to adhere to the following standards:

  • Security of tenure: you can stay in your home for life.
  • You are required to receive legal and financial advice.
  • No negative equity guarantee.
  •  Lifetime mortgages must be fixed or variable — and if they are variable, there has to be a limit.

Not all equity release providers are members of ERC, but you can check via the ERC website. It’s not to say that they’re not safe or have great deals, but most people like the security of knowing their equity release scheme is ERC validated.

The Two Equity Release Options to Choose from

Lifetime mortgages are the most popular equity release product, but other options exist.

For the majority of this article, we'll be discussing lifetime mortgages. Before you move forward with your decision, you must know what options are available to you.

Two equity release options:

  • Lifetime mortgage: the most popular type of equity release. Lifetime mortgages allow you to take out a loan secured against your home while maintaining ownership.
  • Home reversion scheme: you sell your house for less than the market value. You stay in your home; however, you'll be living as a tenant.

Lifetime Mortgages

A lifetime mortgage is a loan secured against your home. It's a great way to tap into your property wealth to earn a tax-free lump sum without moving out or downsizing your home.

Most lifetime mortgages allow you to borrow between 18% and 50% of the value of your home, and it's uncommon to borrow the total market value amount. You don't have to repay the lifetime mortgage until after you pass; however, you can repay it anytime.

It's important to note that there are two main types of lifetime mortgages: roll-up interest mortgages and interest-paying mortgages.

Interest Roll-up Mortgages

You don't pay off the interest as you go, so the interest will continue to mount up. Interest roll-up mortgages are the most expensive of the two options, as the interest is charged on itself (compounding). Still, if you go with a no-negative equity guarantee, your debt won't rise above the value of your property.

Nothing could be left for your family to inherit if the interest compounds.

Interest-Paying Mortgages

You can reduce the cost of a lifetime mortgage by choosing an interest-paying mortgage. Instead of compound interest rates, you'll pay the interest off every month. A monthly interest payment may seem like an additional expense, but it ensures you get better value for your money in the long term.

Home Reversion Scheme

Although the home reversion scheme isn't as popular as lifetime mortgages, you might still be able to benefit from it. Selling your house, or portions of your house, can provide you with an additional source of income, either as one lump sum or a fixed monthly payment.

You can still choose to live in your house after it's sold. You will have to sell your home for less than market value when you use this equity release product.

What Equity Release Fees Can You Expect

Like most loans, there are fees when entering an equity release agreement. Costs will vary depending on the legal advice you seek and the value of your property, so the amount you pay will be different to someone else's. However, the costs associated with an equity release can range between £1,500 and £3,000.

You can expect to pay fees for the following:

  • Application fee: you'll make this payment when the equity release transactions are complete.
  • Legal fees: you'll agree with your solicitor on the total and date they'll be paid for the legal work.
  • Property surveyed: you'll pay this fee when you apply. The amount will vary depending on property value.
  • Advice fee: your equity release adviser may charge you a fee for the consultation.

It's a good idea to look at what different equity release providers offer, as some may provide you with a better deal than others.

How a Lifetime Mortgage May Help You

You may be wondering if a lifetime mortgage is a suitable decision.

People release equity in their homes for many reasons, and we've compiled a list of how a lifetime mortgage can help you.

The different ways a lifetime mortgage can help you:

  • Reduce debt: you can use your money to pay off an outstanding loan or any debts you've accrued. We suggest seeking debt advice to ensure it's the right decision.
  • Fulfil a life aspiration: it's time for your next big adventure. Use the money to travel the world and have the luxurious holiday you've always wanted.
  • Cosy retirement: would you like to enjoy retirement without worrying about money troubles? Having a lump sum or regular payments from your lifetime mortgage can put your mind at ease and allows you to live comfortably.
  • Home renovations: treat yourself to a house extension or a conservatory to lounge in. You can use your lifetime mortgage to help improve your home.

These are only a handful of ideas on using the money from your equity release. In the following section, we discuss the benefits and drawbacks of lifetime mortgages to help you with your decision.

Benefits and Drawbacks of Equity Release

Equity release is a great way to generate income without downsizing your home.

There are many reasons why a person would consider an equity release. In the following sections, we explore the benefits and drawbacks of equity release to help you make a more informed decision.

Benefits

✔️ The money from the release is tax-free income.

✔️ Releasing equity allows you to stay in your home without the need to downsize, move house or live in a cheaper place.

✔️ There are flexible repayment options if you wish to repay your loan early.

✔️ Most lifetime mortgage brokers offer a no negative equity guarantee. So, you'll only owe the value of your home.

✔️ There's only urgency to repay the loan once you pass away or move out of your home.

Drawbacks

❌️ If you give some or all of the money, they may have to pay Inheritance Tax.

❌️ Once you pass away, your lifetime could reduce any inheritance you leave behind.

❌️ You may be charged early repayment charges if you repay the loan early.

❌️ You'll pay interest on your lifetime mortgage. The amount you owe could increase quickly over time and may reduce the equity left in your home.

❌️ If you're entitled to means-tested benefits, your equity release could affect them.

How Do You Get an Equity Release Mortgage

Now that you know what an equity release is, consider applying for one.

There are a few steps to getting a lifetime mortgage. Before you start using it to release equity from your home, you should know that to qualify for an equity release, you'll need to meet the following requirements:

  • You're a homeowner over the age of 55 — if you're borrowing jointly, you'll both need to be over the age of 55.
  • You own the home from which you want to release equity, your permanent primary residence.
  • Your home is worth at least £70,000 and in reasonable condition.

You'll be ready to start the equity release process if you meet the above requirements. Like any financial product, there is a wide range of providers you can choose from with different variations of equity release schemes.

You can find a suitable equity release scheme from one of the top equity release companies within the UK: Key Later Life Finance, SunLife, and Aviva Lifetime Mortgage. Whatever provider you choose must be regulated by the Financial Conduct Authority and follow the standards set by the Equity Release Council.

Once you've found your preferred equity release product and provider, you can start the process. However, we suggest signing up after you've spoken with equity release advisers, and an impartial financial adviser may help you find a more suitable equity release scheme.

Apply for Equity Release in Four Simple Steps

  1. Financial advisers: speak with your financial adviser or an equity release adviser to get qualified advice on equity release products. Your advisor will check your eligibility and give you recommendations based on your personal needs and financial position.
  2. Value of your home: if you've had the go-ahead from your adviser, you'll need to appoint an independent financial adviser or a solicitor specialising in equity release to offer you legal advice and act on your behalf. Your advisor will submit your application to your chosen equity release provider, who will contact you to arrange a home valuation.
  3. Offer: once the valuation is complete and your application is approved, the equity release provider will send the request and terms to your solicitor.
  4. Receiving the lump sum: once you're happy with the offer, the provider will release the money to your solicitor, and then they'll release it to you. In the agreement with the provider, if you choose to receive the lump sum or monthly payments, that's how you'll receive it.

Equity Release Alternatives

Equity release is a serious commitment, but there are other options.

Before filling out any applications, look at alternative options, and you may find something more suited to your needs.

Alternative options for equity release:

  • Extending mortgage term: if you have yet to pay off your mortgage by the time you retire, your lender may agree to extend your home loan period to decrease your monthly payments.
  • Unsecured borrowing: if you require one lump sum, consider trying to borrow money by applying for a credit card, overdraft or personal loan.
  • Consider downsizing: are you still living in your family home, but the kids have all flown the nest? Consider downsizing your home to a cheaper, smaller property and selling your current home for extra cash.
  • Benefits and grants: if you have a low income, you can apply for government benefits and assistance to help supplement your income.
  • Rent out a room: If you'd like to stay in your big home, consider renting out a room to make an extra income.

These are just a few alternatives you can choose from. Before making any significant financial decisions, we recommend always seeking impartial financial advice.

Final Thoughts on Equity Release

You're all set to start releasing equity in your home and making the most of your later life with a lump sum that could be life-changing. Before you start reaching out to any equity release advisers, we have some factors you should think about first:

  • Borrowing amount: if you're looking for a small-term loan, other options may be available. Equally, when taking out equity from your home, you don't have to borrow the whole value amount — we recommend borrowing enough to cover your needs.
  • No negative equity guarantee: depending on the lifetime mortgage broker, you can find great deals that ensure you don't repay above the value of your property.
  • Interest rates: Equity loans have an average interest rate of 6%; these are low compared to other types of loans.
  • Equity release adviser: discuss your plan with an adviser before and during the process. Finding the right adviser ensures you receive the best impartial financial advice.

Looking for a place to compare financial tools? At Compare Banks, you can see what all of the UK banks have to offer you all in one place.

Related Guides:

FAQs

Is Equity Release Safe?

How Much Do You Pay Back on a Lifetime Mortgage?

Can You Sell Your House if You've Taken Equity Release?

What is the Downside of Equity Release?

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