Guide to Equity Release Schemes
Equity release schemes are a way for home owners to raise capital against the security of their homes without having to make any capital or interest repayments during their lifetime. Initially these schemes may seem too good to be true however as with any type of mortgage there are pros and cons.
Equity release is an expensive way of raising money. What this means is that although unlike a traditional mortgage you do not have to make regular repayments, the amount the bank eventually receives in excess of the original loan, which is in effect the interest, is likely to be more than the interest that you would pay on a traditional mortgage over a similar term. You must have sufficient equity in your property to be considered for a loan and you will usually need to be over a certain age.
Types of Equity Release Scheme
There are two main types of equity release scheme, home reversion and lifetime mortgages.
Home Reversion Equity Release Schemes
Under the home reversion equity release scheme the home owner transfers the property to the lender and the lender in return grants the home owner a lifetime lease, meaning he or she can live there until death.
The lender will pay either a regular income or a lump sum to the owner. Upon death the lease will come to an end and the lender will sell the property to settle the debt. Any funds which are left over will be paid to the executors of the deceased home owner’s estate.
Lifetime Mortgage Equity Release Schemes
Lifetime mortgage equity release schemes are more closely related to traditional mortgages. Either an initial lump sum loan is made to the home owner or else he or she is provided with a draw down facility, similar to an overdraft facility, whereby the home owner can withdraw amounts as and when needed up to a maximum limit.
In either case, the lender will have a charge on the property. Interest will accrue monthly but rather than being demanded, it will be added to the debt. Upon the death of the home owner his/her executors will need to repay the debt, which they will usually do by selling the property.
It is possible to repay the debt early but there may be large early redemption penalties so you should enquire about this before signing up to a scheme.
Tax Liabilities and Means Tested Benefits
Any large capital sum which a person receives may have an affect on his or her tax liabilities and eligibility for means tested benefits. About a third of pensioners currently receive a state pension which is related to their income and/or savings. If benefits will be lost as a result of the additional income it may not be worthwhile releasing equity. Similarly, the additional income may put you in a high income tax bracket.
You might decide to sign up for an equity release scheme as a result of unemployment through, say, redundancy. Again, your entitlement to means tested state benefits is likely to be affected.
Regulation of Equity Release Schemes
Equity release schemes are regulated by the Financial Services Authority (FSA) and any lender must be registered with the FSA to legally operate. In addition there is a trade body, SHIP (Safe Home Income Plans), membership of which is voluntary but which covers over 90% of the market. SHIP members must abide by its code of conduct as well as FSA regulations.
One major advantage of all schemes offered by SHIP members is that, at the time of writing at least (and you must check with your financial adviser before signing up to any scheme that it is still the case), they all offer a “no negative equity guarantee”. This means that if the sale price achieved for the property is not sufficient to pay off the total debt due, say because of a slump in house prices, the lender will not seek to recover the shortfall from the deceased home owner’s estate.
You should think twice before borrowing from a provider who is not a SHIP member and should at the very least check with SHIP to ensure they have not been struck off.
Equity Release Schemes After You Die
The idea of equity release schemes is that the debt becomes payable upon the death of the borrower. With home reversion schemes the lender will be the proprietor and will sell the property and account to your executors with any surplus. With a lifetime mortgage the lender will demand payment in full from your estate and will if necessary repossess and sell.
If you are joint borrowers you need to check whether repayment is triggered only when both of you have died or whether it is when one of you dies. If another person lives with you in the property but you are the sole owner then that person will have to vacate following your death and may not receive any equity from the sale.
Naturally, entering into an equity release scheme will seriously reduce the amount of equity in the property which you are able to leave in your will
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