Should you choose an equity release mortgage?

    5 November 2019

    The equity release market is booming. And it’s no surprise. With more property-rich but cash-poor homeowners aged 55 and over looking at ways to fund a better standard of living in retirement, it’s a market that looks set to skyrocket. But what’s behind this growth? And what do you need to know before signing on the dotted line?

    What is equity release?

    Equity release mortgages allow homeowners to take out a loan which is secured against money tied up in their home. This debt is paid back after their death or when they move out of their property.

    Why is the equity release market growing?

    The Prudential Regulation Authority, a regulatory body run by the Bank of England, issued guidance last December that confirmed that equity release mortgages are a suitable asset to back annuities as part of an “appropriately diversified portfolio.” As equity release mortgages are the highest yielding asset that insurance companies can get to back their annuities, this was music to ears of the likes of Aviva, Just Retirement, Legal & General and Canada Life, who have all been working hard to increase their volumes.

    The competition for equity release mortgages has become so fierce that providers are willing to pay commissions to brokers, known as procuration fees, of up to 2.3 per cent of the loan amount. That’s around five times higher than the commission a broker receives for introducing a first time buyer mortgage.

    And it’s not just insurance companies that are happy with the growth of the equity release market. With all of us living longer, HM Treasury is increasingly keen for homeowners to think about equity release as a way of funding their own retirement.

    What should you look out for?

    Equity release mortgages really aren’t for everybody. But as more homeowners with small pension pots look set to unlock some of the equity in their homes, here are five key things to consider before you take the plunge.

    1. Watch out for early repayment charges

    Equity release mortgages can be difficult to unravel if you happen to change your mind within a few months or even years, and the early repayment charge (ERC) can be rather eyewatering. Extreme cases of 25% are rare, but if you’re looking to buy your way out of an equity release mortgage in the first few years, you could be looking at an ERC of around 10 per cent.

    2. Equity release can be more expensive

    The rate of interest you’re likely to be charged by a lifetime mortgage (the most common form of equity release), is likely to be higher than that of an ordinary mortgage. And with building societies in particular increasingly offering later life mortgages, you may be able to find a better deal from the likes of the Chorley Building Society or Newbury Building Society.

    3. It can be a slow process

    For mainstream mortgages, a lender is largely thinking about if you can afford to pay back the money they lend you. When it comes to equity release, the property valuation is fundamental, as lifetime mortgages have a “no negative equity guarantee”. This means that neither you, nor your estate, will be liable to pay any costs once the property is sold, but it does mean that the valuation process can be a lot slower. A number of equity release firms, such as LV= and Aviva only have paper application forms, which can also slow down the application process.

    4. Take advice and don’t be pressured

    As with any big financial decisions, particularly in later life, make sure you get appropriate advice and take time to think through your options. If you feel pressured, it’s best to just walk away.

    5. Stay clear of home reversion

    While only accounting for a reported 1% of all equity release mortgages now sold, home reversion is a product that’s best avoided as it will give you a lot less than the true market value of your home.

    Michael Fotis is the Founder of Smart Money People and co-author of the bi-annual Mortgage Lender Benchmark.