CASHING IN ON YOUR HOME

You are short of money but you live in a house worth more than a win on the football pools. So why not convert that property into cash you can spend? It is called ‘equity release’ because you set free some of the value – or ‘equity’ – in your property. It can be a good idea, but there are drawbacks to consider before you give up a share in the value of your most valuable and personal possession – your own home.

The equity release market is booming. In 2002 alone 16,000 people released money from their home to raise £650 million. Experts say the market could total £100 billion. No wonder financial advisers are rubbing their hands. Equity release is a wonderful product for them. Unlike many investment deals, they are not making promises that depend on an ever-rising stock market which have so often not been kept.

In the past some equity release products have been very dangerous, leaving people with debts that were bigger than the value of their home. Many older people had years of anxiety, some lost their homes. Nowadays those dangers should be passed but equity release products can seem poor value. Releasing a relatively small amount of money can end up costing all the value of your home.

There are two main sorts of equity release products currently on the market.

The first is a ‘roll-up loan’. You borrow a lump-sum which is secured against the value of your home. In other words it is a mortgage. But unlike standard mortgages you do not make any monthly payments. Instead, the interest on the loan is added to your debt or ‘rolls up’. That means your debt grows each year – but there will be a guarantee that the debt can never exceed the value of your property and you are safe to stay there all your life, if you want. When you finally die, your home is sold and the debt is repaid.

The interest on a roll-up loan is at least 7%, which is very high when you consider that you can get a regular mortgage at a shade over 5% fixed for 25 years. The companies say that is because it can be many years before the debt or the interest will be paid.

Such a high mortgage rate means that by the time you die the whole value of your home can have disappeared. For example, someone aged 70 with a house worth £160,000 can borrow a quarter of that amount - £40,000. If they live 20 years then at 7% that debt will have grown to £160,000, as much as your home is now worth. Of course, the value of your home may also have grown – but you cannot guarantee that. So it is possible that having £40,000 now will cost you the entire value of your property. It also means you will never know how much will left for your children.

Some companies will do roll-up loans for people as young as 55. But you should avoid them until you are 65 if you can. At that age you can borrow about 20% of the value of your home. At 75 that rises to around 35% and at 85 it is about 45%. Some newer schemes will let you draw money from the loan as you need it rather than taking the whole lot at once. That can be a useful form of flexibility.

Each scheme has its own rules but your home will need to be worth at least £50,000 and you cannot normally borrow less than around £15,000. If you live in a flat, then you will need to have at least 75 years left on the lease, sometimes more.

The second sort of scheme is called ‘home reversion’. You sell a share of your home to a finance company for a cash sum and you get a guarantee that you can live there for as long as you want. Because you do not borrow any money there is no debt ticking up. But the finance company owns a proportion of your home and as the value of your home rises, so does the value of the company’s share. But you do at least know what proportion will be yours to leave to your heirs. And if you need more money in a few years you can sell another portion of it.

As with roll-up loans there are restrictions. You need to be at least 65 and your home must normally be worth at least £50,000 – and a lot more with some companies. How much you will get will depend on your age and sex – women live longer so get less at a given age than men and couples get least of all because the company does not get its money until both partners have died – or gone into care. For example, a single man aged 70 with a £200,000 home who took a home reversion scheme on half of it might get a lumpsum of around £48,000. A single woman would get £44,000 and a couple just £40,000.

You will have to pay for a survey and legal fees and there may be other expenses. Altogether it can easily cost you £1000. If you do not have your home insured then you will have to take out insurance. You will continue to be responsible for repairs and will have to maintain your home to a reasonable standard.

Not everyone stays in their home for life. If you want to move or have to go into a care or nursing home then you can either end the scheme or transfer it to a suitable new property. If you end the scheme, you will sell your home, pay off the debt and keep any balance that is left. Some roll-up schemes may impose a penalty if you pull out in the first five years.

Before you embark on an equity release scheme consider carefully what you want the money for. Equity release is a long-term financial deal so make sure the advantage you get is long-term too. It is not sensible to mortgage part of your home for life to go on a holiday or pay off a credit card debt. It may be sensible to use it to pay for a major home repair or improvement that will enhance the quality of your life. Or to use the money to boost your income – as long as that income will last for life as well. Colin Taylor of IFAs Key Retirement Solutions warns that taking the money and just spending it is not a good idea "We get people coming to us who have retired with a lump-sum which they have then spent to boost their standard of living and five years on find that it is all gone. They then want equity release to replace it. That is not a good idea because five years later they’ll be in the same position again."

Some schemes will offer you an income rather than a lump-sum as part of the deal.

But normally you have to convert it to a monthly income by buying what is called a Purchased Life Annuity. For £50,000 a single woman aged 70 would get an income around £330 a month for life. A man would get £380 and a couple would get £288 between them. Non-taxpayers would get slightly more. The older you are the higher the annuity would be.

Whatever you want the money for there may be an alternative. The cheapest way to release money from the value of your property is to sell it and buy a cheaper one. If you have savings it is usually better to use them than to go into debt. If you need repairs it is better to take out a second mortgage if you can afford the monthly repayments. The Home Income Trust is a charity that helps with home repairs and may offer a better deal than a commercial lender. Many people can boost their income by claiming extra state benefits or paying less tax. Any of these things can be better than giving up part of the value of your home.

If you claim pension credit, minimum income guarantee, housing benefit, or council tax benefit then take care. Boosting your capital or income through equity release may mean you lose some or all of the state benefits you get.

Taking out an equity release scheme will reduce the amount you leave when you die and may save Inheritance Tax – but it is not worth doing it just for that. Your relatives will be better off inheriting everything and paying 40% tax on some of it than inheriting less in the first place.

Equity release schemes are not regulated by the Financial Services Authority, though that will change in 2004. However, most companies selling them are regulated – either by the FSA or the Mortgage Code Compliance Board. Try to choose one that is. They will tell you how to proceed if you are not happy with the product you have bought.

Before committing yourself to any equity release deal

Safe Home Income Plans – SHIP – 0870 241 6060

Key Retirement Solutions 0800 064 70 75

Council of Mortgage Lenders 020 7440 2255

Home Improvement Trust 0115 934 9511

Age Concern 0800 009966

Help the Aged 0808 800 6565

September 2003

e-mail Paul Lewis on paul@paullewis.co.uk