An estimated 60,000 interest-only mortgages are expected to mature in 2020, but according to UK Finance, up to a quarter of these mortgage holder could not be in a strong position to pay them off.
At the end of an interest-only mortgage, you’re faced with a lump sum bill of the money you borrowed to buy your home. In theory, investments made over the lifetime of the mortgage can be cashed in to pay off the debt- but sometimes things can go wrong, leaving mortgage-holders in an unenviable tight spot.
One solution which has the potential to help is equity release: it allows homeowners to release a lump sum of cash against the value of their home, which can be used to pay off outstanding debts.
What Is Equity Release?
Homeowners over the age of 55 can opt into an equity release to access the wealth locked up in their property. Using the value of your home as security, equity release allows you to borrow a lump sum or withdraw a steady stream of income without making any repayments. The loan and any interest is generally paid off when you die or move into long-term care.
How Does Equity Release Work?
There are two types of equity release scheme available in the UK: lifetime mortgages and home reversion plans. The minimum age for a lifetime mortgage is 55, and 65 years old for a home reversion plan.
A lifetime mortgage is a loan with a fixed interest rate which is secured against your home. Unlike a regular mortgage, you don’t make any repayments. Instead, interest is added to the money you borrowed, which is paid back in full when you die or move into long-term care using funds from the sale of your house.
When you take out a lifetime mortgage, you can choose to withdraw all the equity at once in a lump sum, or withdraw smaller amounts as you need them, in a ‘drawdown’ plan.
Home Reversion Plan
In a home reversion plan, a lender buys a share in your property at a below-market price, while you continue to live in your home as normal. When you die or move into long-term care, the lender recovers its investment through the sale of your home.
You can choose whether to release the equity in one lump sum or to receive a regular stream of smaller payouts from your lender does not mean they are necessarily a bad idea, but it is important to understand the costs and benefits to decide whether equity release is right for you.
In a lifetime mortgage, you don’t make any repayments on your loan while you alive. This means that the interest on the loan compounds on an ever-increasing total, and so mounts up very quickly compared to a repayment loan.
For example, £60,000 in equity borrowed over ten years at 5% would result in a lump sum of £98, 820 to be repaid from your estate when you die.
This debt roll-up is one of the major drawbacks of equity release. However, it is possible to minimize the impact of compound interest: making payments on the loan interest while you are still alive or reducing the amount you borrow is a couple of ways to avoid this debt roll-up.
The Popularity of Mortgages in the UK by Type
|Type of mortgage||Percentage of people with this type of mortgage|
Paying Off an Interest-Only Mortgage With Equity Release
With a repayment mortgage, you only pay the interest of the loan each month. This helps to keep monthly repayments low but means that at the end of the mortgage term, you still owe the money you borrowed at the beginning and must pay it off as a lump sum.
If you don’t pay off your what you owe at the end of the term, the lender has a right to repossess your home.
Before an interest-only mortgage gets approved, the borrower has to provide evidence of a solid repayment plan that will enable them to pay off the lump sum at the end of the term.
This usually takes the form of investments in stocks and shares, a pension or another savings plan. However, even supposedly watertight investment strategies don’t always go according to plan.
Over the years, it’s possible for investments not to perform as well as you’d hoped, or for other urgent debts to crop up and overshadow the plans you originally had for your mortgage savings.
If you release that you or your loved one could face problems repaying an interest-only mortgage, it’s important to speak with your lender as soon as possible and start thinking about your options.
Normally in the case of a shortfall, you could be asked to extend the loan. This gives you more time to find the money – but doesn’t make the debt go away.
Switching to a repayment mortgage is another common solution, but inevitably causes your monthly mortgage payments to shoot up.
Selling your home or downsizing also offers a route out of mortgage debt, but what if you’re not ready to do that?
Equity Release as a Solution
Equity release, on the other hand, could be the perfect solution. It allows you to stay in your home, pay off your debt and forget about monthly repayments for good.
You can borrow up to 50% of the value of your home in most equity release plans, so even if there is a substantial shortfall in your repayment plan, it could help you cover the costs of the mortgage.
It also allows you to clear your debts sooner rather than later: if you’re over 55, you can release equity on your home whenever you like.
This means that you could potentially save money on interest by repaying your mortgage earlier than the full term- although be aware that most mortgage providers charge some kind of early repayment fee for doing this.
How Does It Work?
When you take on an equity release plan, you are obliged to first clear any outstanding debts secured against your home.
This is because the lender will eventually use your property to recover the money you borrowed plus any interest, so it important that there are no other creditors competing for a share of the property’s value.
When you enquire about equity release, you provide details about your mortgage and any other debts secured on your property. If your home is worth enough to cover these costs, the lender will ensure that you receive enough in your plan to pay off these debts.
It’s up to you what you do with any extra that you release on top of this: you could choose to clear unsecured debts, such a credit cards and personal loans, to get rid of all your monthly debt outgoings.
When you discuss your mortgage expenses with an equity release provider, don’t forget to calculate the cost of any early repayment fees or exit fees for paying off your mortgage before the end of the term.
When you receive the equity release funds, you can contact your mortgage provider and let them know that you are ready to repay the lump sum.
Top 5 Housing Worries of Interest-Only Mortgage Holders
|Concern||Percentage of interest-only mortgage holders who say they work about this issue|
|Being able to pay off the mortgage||34%|
|Negative equity (when mortgage debt is worth more than your home)||29%|
|Being able to move up the property ladder||26%|
|Solicitors or conveyancing fees||28%|
|Monthly mortgage payments||25%|
Paying Off Unsecured Debts With Equity Release
Equity release can help you take financial control of your retirement by clearing existing unsecured debts, as well as your mortgage.
Retirement should be a time to enjoy the fruits of your labor, but if you’re struggling to keep your head above water because of unsecured debts, it’s unlikely to be a very relaxing period.
Many people experience a drop in their income as they enter retirement, which can make it more difficult to keep up with monthly outgoings.
Rather than returning to work or watching your debt spiral, equity release could help you clear your arrears and debts once and for all.
When you release equity on your home, you can choose to spend it on whatever you like and won’t have to make any repayments on the debt as long as you’re living in your home.
This can ease the burden and stress of debt- so you can enjoy your retirement to the fullest.
How Does It Work?
Before you apply for equity release, work out how much you would need to pay off all of your existing unsecured debts. This includes borrowing on credit cards, overdrafts, personal loans and store cards. Don’t forget to check with lenders whether there are any early repayment fees on these accounts.
Once you have worked out how much it would cost to pay off everything, you can include this figure in your calculations when working out how much equity to release on your home.
After you’ve released the cash, you can contact your creditors and pay off the debt, once and for all.
Pros and Cons of Using Equity Release to Clear Debts
|Make sure your home is safe from repossession by paying off your interest-only mortgage||Costs and fees related to equity release can he high if you change your mind|
|Stop paying monthly instalments towards mortgage and debts forever||Interest mounts up quickly which can eat into beneficiaries’ inheritance|
|Free up more of your income to spend on enjoying your retirement||Equity release can affect means-tested benefits|
How Can Equity Tree Help?
Here at Equity Tree, we have partnered with some of the UK’s leading Equity Release broker companies.
They have already helped thousands of people release equity already, and they can do the same for you.
Choosing an independent adviser means they won’t recommend a scheme unless they are sure it is in your best interests. Their advice is also regulated by the FCA, which gives you an additional layer of protection.
If you would like to speak to one of these equity release companies, click on the below and answer the questions.