Should I Apply For An Equity-Release Loan?

With bad news about how our UK pensions are fairing almost a daily occurrence at the moment, many homeowners in the UK are facing up to the fact that most of our equity is in the homes we own. The only real problem with this is that unless we are prepared to move to a smaller house, it is difficult to free up the equity we have in the home. Catering to this growing band of dissatisfied British pension is where equity-release loans come into play. Many a UK lender has now realized that by offering to unlock this equity value with an equity-release loan, a new and ever growing profit can be earned. So, should you apply for an equity-release loan?

How does an equity release loan work?

The fundamentals of an equity-release loan are fairly easy concept to understand. Let’s assume you are either retired or close to retirement and you want to free up some of the equity in your home so that you continue to afford the lifestyle you have become accustomed to. Likely as not you’ll have a home with either no mortgage or a very minimal mortgage. To free up the equity in the home you can either:

- agree to sell a part (usually no more than 25%) of you home in exchange for a one off lump-sum payment. Once you die, the purchaser/co-owner of the property will either get the percentage value of your property they own on its sale (e.g. 25% of the sale value), or, alternatively, your heir can agree to pay-out the co-owner by buying back the 25% ownership at the then current market rate (provided that such market rate is not less than the amount paid to buy the share in your property in the first place).

- you take-out what is known as a “life time mortgage”. With a life time mortgage you re-mortgage part of the value of your home. However, as you are unlikely to be able to make monthly repayments of the interest or principal, the lender agrees to defer the repayment of both until you either sell the property or die.

The problems of compounding interest

Although the option of an equity-release loan may initially look very attractive, one fundamental problem with this type of loan concerns compounding interest. While the monthly interest amount may look minimal, over a period of 5 years, the compound interest on a loan of £250,000 can be half again as much as you borrowed. As such, although you may only borrow 25% of the property’s value, your children may lose the remaining value of the home in repaying the interest charged on the loan. In the long run, this is likely going to be a major problem for your children.

Regulatory issues

Most lending in the UK is strictly regulated. However, the equity-release loan product is so new, this area of UK lending is currently not regulated. Consequently, although you may think you are dealing with honest brokers and lenders, there is nothing to regulated unscrupulous moneylenders from offering you this type of loan. As such, you need to be extremely careful that you deal with a reputable lender if you want to ensure you don’t have your home taken away from you when you need it the most.

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