Paul Wheatcroft, 15 months ago16 min read
The first thing to mention is that equity release mortgages are heavily regulated financial products, with strong FCA (Financial Conduct Authority) controls in place to protect consumers. However, this doesn’t mean that they are the right solution for every borrower, and the risks or downsides associated with equity release are typically down to how suitable the loan type is for your personal circumstances.
In this article we’ll discuss some of the key things you should be discussing with your financial advisor when considering an equity release mortgage, and some of the pitfalls to watch out for.
An equity release loan is a type of mortgage that allows you to take money from the value built up in your home, without you having to sell, move or take on new monthly payments.
There are two types of equity release mortgages:
Lifetime Mortgages: Like a regular residential mortgage; you borrow money against the value of your home. There’s one major difference; you don’t have to make any monthly repayments as the interest is accrued and paid as a lump sum when the house is sold on death (or the last borrower moves into permanent care)
Home Reversion Schemes: This is where you actually sell your property (or a part of it), however you continue to live in your home without rental payments until death of the last borrower, or they move into permanent care.
Both methods of equity release are designed to give you access to the equity in your home, without the stress of selling the property or taking on the burden of monthly repayments.
The simple answer to this is yes; equity release mortgages are a highly regulated financial product so as long as you work with a reputable provider (ideally a member of the Equity Release Council), then you are protected from unsafe lending practices.
If you have any doubts about the advice you are receiving from a Financial Advisor or an equity release provider, you can check their credentials against the FCA register and the Equity Release Council list of members. If you have any retrospective complaints about advice you’ve received regarding an equity release product, then the Financial Ombudsman Service is available to investigate your complaint and take action if laws, best-practice and guidelines have not been followed.
When people talk about risks or downside of equity release mortgages, they are rarely referring to unscrupulous practices or financial fraud. The Financial Ombudsman Service list the most common complaints they receive in regards to equity release products as follows:
- Concerns that the borrower was too vulnerable to be making a decision about equity release, and where talked into taking out the product
- Concerns that the equity release product sold was unsuitable for the borrower, and an alternative solution (such as remortgaging) would have been more appropriate
- Concerns that the Early Repayment Charges associated with a product are unfair or were unsuitable for the borrowers circumstances
- Concerns that the implications of the death of one borrower were not clearly explained when taking a joint policy
All of these issues should be prevented at the advisory stage by working with an FCA registered Financial Advisor, who is a member of the Equity Release Council, to ensure you are getting the most suitable advice and are fully aware of the long-term implications of an equity release mortgage.
As you can see above, the most common complaints the Financial Ombudsman Service receives around equity release products are down to borrowers being given poor or insufficient advice. When the wrong advice is given, or key considerations omitted, borrowers can be left in a position where they are stuck with an unsuitable product for their initial financial goals, and even facing unexpected charges.
These are the main ten risk factors that should be considered when looking at an equity release product, and discussed with a qualified Financial Advisor:
You are limited to the amount that you can borrow: Whilst the exact parameters change from provider to provider, as a rule of thumb you can typically only release a maximum of 60% of the value of your home through a lifetime mortgage. This means that if your financial plans require an amount greater than this, then an equity release product may not be a suitable solution.
You will likely be charged higher interest rates than standard mortgage borrowing: The interest rates of equity release mortgages fluctuate with the market (similar to standard mortgage rates), however as a rule of thumb the rates for a lifetime mortgage are typically 1.5% - 2% higher than standard residential borrowing. This is why a residential remortgage is often cited as a route to consider before taking out an equity release loan (even when you take into account the repayments due)
There will be early repayment charges due if you were to change your mind: Lifetime mortgages usually come with early repayment charges (fees that you have to pay the lender if you choose to repay your loan early). These charges come in different structures from provider to provider (typically as a % of the outstanding balance being paid early), so it’s worth taking the time to fully understand them. Some borrowers assume that a lender will be happy to take full repayment early, and are then left with a nasty shock when thousands of pounds of charges are added to the settlement figure.
The accrued interest payments compound over time: Whilst some borrowers see the fact that there are no monthly payments with a lifetime mortgage as a major advantage, it’s key to note that this means that the interest being charged on the debt will compound over time. The impact of this ‘roll-up’ compound interest often catches borrowers by surprise, for example £100,000 borrowed on a 6% interest rate would create a debt of £331,000 over 20 years, more than 3 times what you originally borrowed. This could mean a lot less equity in your home is left over for your estate (or potentially none at all!) This is why it’s critical to discuss the true lifetime cost of a lifetime mortgage with a Financial Advisor.
You will be charged fees to set-up the product, as well as legal costs: It’s not just the interest costs you need to take into account when deciding if an equity release mortgage is the right solution for you, there are additional fees that will impact the overall cost of the loan. You’ll typically have to pay three sets of additional costs; the fee for your financial advice, the fee for your legal representation, and the fees charged by your provider to set up the loan. There are many factors that impact the exact levels of fees you will be charged, so it’s important to receive quotes at the start of the process so you can understand the true cost.
With a home reversion scheme, you will receive a below market-value offer: With a home reversion scheme you sell your home (or part of it), however you are able to stay in the property for the remainder of your life without any rent or mortgage payments. While this might sound like a great deal, the downside of these schemes is that the price the provider buys the property for will be below market value. This means you are potentially missing out on yourself or your estate realising the true value of the equity in your home.
The money received from equity release could impact means-tested benefits: There are several benefits which are means-tested; where your personal finances and available capital (cash) are taken into consideration to decide how much (if any) benefits you will receive. While the value of your property isn’t taken into consideration in these assessments, if you were to unlock this value via equity release then there could be an impact as you would have more capital/cash available. Benefits that could be impacted include pension credit, council tax reductions and universal credit.
Your inheritance plans will likely be impacted: In essence, an equity release mortgage allows a borrower to access cash from the value of their home that would otherwise only be unlocked on death or if they moved into long term care. This therefore means that when the property does eventually go on sale, there is less equity available for the borrower's estate. In some cases there is no equity at all; if the amount borrowed plus the accrued interest are equal to or larger than the amount of equity in the property when it sells, there will be no remaining funds to distribute as inheritance.
In a joint policy, the loan (and any early repayment charges) will stay in place following the death of the first borrower: A common area of confusion and misunderstanding can occur is when a joint equity release product is taken out by a couple, but one of the borrowers dies or is taken into long-term care. It is sometimes assumed that the terms, restrictions and charges associated with the loan will change, however this is not the case, and the final borrower will still be bound by the terms of the original agreement.
An alternative solution might be more suitable for your plans/needs: Taking into account all of the above points, it can be the case that for some circumstances an equity release mortgage isn’t the most suitable or cost-effective solution to meet a borrower's financial objectives. If this is the case, a Financial Advisor might advise an alternative solution, such as a traditional remortgage, a secured loan, or even downsizing. This is where a good independent Financial Advisor really earns their worth; by recommending the solution that is most beneficial to you.
By working closely with an experienced Financial Advisor, you’ll be able to assess each of these potential risks against your financial plans to ensure that you select the right product, and don’t receive any unexpected surprises in the future.
Negative equity is when the amount a borrower owes their lender actually exceeds the sale value of the property, meaning that even after selling the property the borrower (or their estate) would owe additional money to the lender. One common misconception about equity release mortgages is that there’s a risk of negative equity, and the worry that your estate could end up in debt to the provider.
The truth is that the Equity Release Council set a product standard for all their members, which they call the ‘no negative equity guarantee’. This means that if you take a lifetime mortgage with an Equity Release Council member, you will never be in a position where you or your estate owe money beyond the sale of the property, even if the property dramatically falls in value. This gives borrowers the confidence that taking an equity release product will never result in debt for their estate.
There’s a misconception that because a lifetime mortgage is secured against your home, you’re unable to sell the property and move. Fortunately for borrowers, this isn’t true, and there are several options available that allow you to move home even after you’ve taken out an equity release mortgage.
The most common solution is to simply ‘port’ your lifetime mortgage, which means to move the same loan with the same lender from your current property to your new home. In this sense, lifetime mortgages behave in the same way as standard residential mortgages. The major difference is that even after moving your loan to the new property, there will still be no monthly repayments and the amount borrowed (plus the accrued interest) will be due to be prepaid on the death of the final borrower.
The second option is to pay off your lifetime mortgage when you sell your current property and take out a new loan when you purchase your new home. This is generally a less favorable option as you’ll often be faced with early repayment charges for exiting your lifetime mortgage early. The one circumstance where this might be beneficial is if current market mortgage rates are lower than your existing rate, and paying early exit fees might be offset by the savings on the accrued interest.
You’ll have heard the warning on adverts for standard residential mortgages; your home may be at risk if you don’t keep up payments on your mortgage. We are often asked if there is a repossession risk with equity release mortgages, considering there are no repayments to keep up with.
The simple answer is no; because both lifetime mortgages and home reversion schemes are agreements that the lender will achieve their repayment following the sale of the property after the death of the final borrower (or them moving into long term care), there are no financial obligations a borrower needs to keep to avoid repossession.
The slightly more complex answer is that whilst it’s rare, there are some circumstances that could lead to legal action between a borrower and an equity release provider. For example, if a borrower made any false or misleading declarations on their application, a lender could view this as fraudulent and see it as grounds for further action. Alternatively, there are terms and conditions attached to equity release products, such as keeping the property in good repair, that a borrower will need to adhere to in order to avoid action from a lender. The Equity Release Council offers reassurance on this though, stating “We should emphasise that even if a contract is breached on the behalf of a customer, a lender would first give the borrower warning about what the borrower needed to put right.”
With a lifetime mortgage, even though your loan is secured against the property, it is still your property and therefore you can’t be evicted (although it’s worth reading through the above to understand the slim chances of repossession)
With a home reversion scheme, you sell your property to the provider on the agreement that you can live in the property (rent-free) until the death of the last borrower (or they are moved into permanent care). Under this agreement, you are technically a tenant in your own property, and whilst there is a ‘lifetime guarantee’ (that you will never be evicted), there are terms and conditions of the agreement that you will need to adhere to. These typically include keeping the property in good repair, ensuring that the property does not sit empty for prolonged periods, and not using the property as a commercial enterprise (i.e taking in a tennant yourself, or offering the property as an AirBnB)
All of the risks we've outlined in this article can be combatted by taking good financial advice and choosing to work with accredited providers and professionals. Whilst sometimes the need to release the equity in your home can make it tempting to rush the process, the more time spent obtaining advise, selecting partners and reviewing options the less risk you have of encountering the potential pitfalls. The key three things to do when considering equity release:
2. Select a Solicitor who is a member of the Equity Release Council and has previously worked on equity release cases
3. Work with an equity release provider who is a member of the Equity Release Council, offering products adhereing to the Statement of Principles
The Financial Conduct Authority (often abbreviated to the FCA) is the UK financial regulatory body, operating independently of the UK government. The FCA was established in 2013 as a result of the Financial Services Act 2012, and is responsible for regulating financial firms and individuals that provide financial advice and services.
They help protect consumers by ensuring that these firms are compliant with relevant laws and regulations, and the FCA has the authority to take enforcement action against firms that violate regulations or engage in misconduct.
In addition to regulating financial firms, the FCA also works to protect consumers by setting standards for financial products and providing information to help consumers make informed decisions.
The Equity Release Council (sometimes abbreviated to the ERC) is a trade association that represents the interests of the equity release industry in the United Kingdom. It was established in 1991 as the Safe Home Income Plans (SHIP) Council, and was later rebranded as the Equity Release Council in 2013.
The organisation's members include lenders, advisors, and other professionals involved in the equity release market. The Equity Release Council sets standards and best practices for the industry, and provides guidance to its members on how to adhere to these standards.
The ERC also works to educate the public about equity release, and to promote the availability and benefits of these products. The Equity Release Council plays a key role in helping to ensure that the equity release market is transparent, fair, and operates in the best interests of consumers, and borrowers can be confident that member Advisors, lenders and Solicitors are working to the highest industry standards.
The UK Financial Ombudsman Service is an independent service that resolves disputes between financial firms and their customers. It was established in 2000 as a result of the Financial Services and Markets Act, and is funded by a levy on financial firms.
The Financial Ombudsman Service has the authority to investigate and make decisions on complaints made by consumers about financial products or services. It can also make binding decisions that require a financial firm to take a certain action or pay compensation to the consumer.
The Financial Ombudsman Service handles a wide range of financial disputes, including complaints about mortgages, insurance, investments, and credit cards. It aims to resolve disputes quickly and fairly, and its services are available to consumers as well as small businesses.
Whilst equity release borrowers would hope to never need the service Financial Ombudsman Service, it is an excellent resource for consumers if issues ever do arise.
At MyLocalMortgage it’s our mission to help you find the perfect mortgage advisor for you, with over 1,600 registered mortgage professionals. You can use our search function to find an advisor near you, or look at our list of experienced and specialist equity release advisors, covering all areas of the UK.