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Home equity release schemes

publication date: Sep 1, 2011
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here are many reasons for older people to explore the Equity Release route, clients not able to sell their homes or perhaps in two minds about selling but needing to free up equity may become interested in the various schemes for Home Equity Release currently on the market some of which are currently well advertised. 

Such schemes have been around for a number of years although some earlier versions left much to be desired in terms of clarity and suitability. These schemes are aimed at the more mature homeowner (although some are obtainable at age 55) and it is imperative that the homeowner obtains proper advice from an IFA before entering into such an arrangement. I strongly recommend that anyone interested in such a scheme access the information provided by SHIP (Safe Home Income Plans) by visiting their website at www.ship-ltd.org.

Although the schemes differ in many ways the overriding principle is that the homeowner borrows a part of the value of their home in return for a share of the proceeds of sale of the property on the death of the homeowner. The equity release can provide either a lump sum payment or a regular income – achieved by reinvestment of the loan money – or a combination. Any money obtained is tax free although there may be tax to pay on any income generated from reinvestment.

The attraction is that the homeowner can remain in their home as long as they wish with no repayments of capital to be made to the lender which will realise it’s investment only when the property is sold
following the death of the homeowner.

The schemes are particularly attractive to childless homeowners who need not consider the next generation but they are also beneficial where children are involved as the lump some payment can be used to provide a house deposit for a child or university fees for a grandchild – it is their money to deal with as they please. 

Most schemes do allow the homeowner to move home and to take the scheme with them rather than repaying the loan. Four main products are available:

Home Reversion Plans
Under this scheme the homeowner sells a share of their home to a lender for a lump sum and/or an income. When the homeowner dies the lender receives its share together with the capital appreciation attaching to that share since the date the loan was made. Thus if you sold a 50 per cent share at the outset then the lender will receive 50 per cent of the proceeds of sale. There is nothing to pay the lender during the homeowner’s lifetime. The homeowner continues to benefit from capital appreciation of the retained 50 per cent. Remember that the valuation upon which the loan is based is not the market value of the home but a discounted rate because the lender may have to wait years for a return on its investment. This scheme
is not suited to the younger homeowner (in their 60s) because of the large valuation discount which will be applied.

Lifetime Mortgages
Here the homeowner will receive a lump sum by way of mortgage, but will not make any payments of interest or repayments of capital during his or her lifetime. The interest is ‘rolled-up’ and added to the
capital element of the loan. Again, the loan is only repayable in the event of the death of the homeowner or possibly when he or she needs to go into long term care.

As with the Home Reversion Plan, the loan money can be used for any purpose but the big difference is that the homeowner retains all of the capital growth in the value of their home.

Homeowners may be concerned that the longer they survive the more the debt will increase possibly to a position where there is negative equity. Most reputable schemes cap the sum to be repaid to the sale proceeds of the home. The outstanding loan will be a debt of the estate and will reduce the amount of any IHT payable.

One downside is that the homeowner will never know with any accuracy how much will be outstanding on his or her death and this may make planning for the division of assets more difficult.
Some schemes allow the homeowner to draw down parts of the loan as and when they require them rather than having to take the whole loan at the outset.

Interest only Lifetime Mortgages
This is a standard mortgage product where only monthly repayments of interest are made, the capital remaining outstanding until the property is sold. As with any mortgage the ability to borrow is linked to the income of the homeowner and in the instance of the more mature homeowner this may well be pension and investment income. Earnings are generally discounted entirely as the lender will take the view that these will cease at some time.

The benefits of an interest only lifetime mortgage are that the loan is fixed provided that the monthly payments are made and more equity is kept allowing for greater freedom to raise funds in later life.

Home Income Plans
This type of equity release plan has been popular in the past. The lender advances a loan to the homeowner by way of mortgage but the loan is not paid over as a lump sum but instead is used to buy an annuity which guarantees an income for the homeowner for life. The annuity received services the interest on the mortgage but the remainder belongs to the homeowner to spend as they wish. The capital, in the usual way, is only repaid from the proceeds of sale of the house following the death of the homeowner.

The homeowner will retain all of the capital growth in the property but will not have a lump sum to spend. Bear in mind that annuity rates may not be attractive at the time the loan is taken out and will be fixed at the start. Inflation may eat into the value of the income and the income may reduce any state benefits to which the homeowner is entitled.

It should be noted here that mortgage based products do tend to bear a higher rate of interest than would otherwise be available to a younger borrower. Also there are set-up fees to pay including legal costs and valuation fees.

Anyone considering one of these plans should consider discussing the matter with family members to keep them in the picture as it may be that funds provided by family members may serve the same needs and avoid the home being partially sold off or encumbered by a mortgage.

Graham Dorman, Partner, Knights Solicitors. www.knights-solicitors.co.uk