Equity release is one of the most popular ways to raise money for home improvements. But what exactly is equity release? And how do you decide whether this option is right for you?
Here’s everything you need to know about equity release.
What Is Equity Release?
When you buy a house, you usually borrow money against the value of your property. This means that you pay off the mortgage over many years, and then own the house outright.
But sometimes people don’t have enough cash to pay off the full amount of their mortgage. They may have saved up for a deposit, but still need to borrow money to cover the rest. Or maybe they’ve had a big life change, such as marriage or having a baby, and they’re struggling to find the funds to repay the loan.
In these situations, you can use equity release to access the equity in your home without selling it. Instead, you give the lender a lump sum payment, and they agree to let you live there for free until you die.
How Does Equity Release Work?
As part of the deal, you sign a contract agreeing to pay back the loan, plus interest, over a set period of time. The length of the repayment term depends on the type of equity release product you choose.
There are two main types of equity release – lifetime mortgages and fixed rate loans.
A lifetime mortgage is an agreement to pay back the whole amount borrowed over a set number of years. For example, if you take out a £100,000 lifetime mortgage, you would pay back £100,000 over 30 years.
The advantage of a lifetime mortgage is that you won’t have to worry about repaying the loan once you stop working. However, the disadvantage is that you could end up paying much more than you expected. If you earn less than average, you could end up paying back more than the original amount borrowed.
Fixed-rate loans are similar to lifetime mortgages, except that instead of paying back the entire loan balance over a set number of payments, you pay back a smaller amount each month.
For example, if you took out a £100, 000 fixed-rate loan, you’d pay back £10,000 per year. If this is confusing, equity release calculators can give you an idea on how the actual numbers will look.
This means that you wouldn’t have to worry about paying back the loan until you retire, but you’d still have to pay back some of the loan every year.
Which Type Should I Choose?
It’s important to think carefully before choosing between a lifetime mortgage and a fixed-rate loan.
With a lifetime mortgage, you pay back the entire amount borrowed at the end of the agreed period. So, if you take out £100,000, you’d pay back the full amount over 30 years.
However, if you take out an equivalent fixed-rate loan, then you’d pay back a lower amount each month. For example, if your monthly repayments were £1,000, you’d only pay back £9,000 over 30 years, rather than the full £100,000.
So which should you choose? It really comes down to personal preference. Do you want to pay back the full amount at the end of the term, or do you prefer to pay back a smaller amount every month?
If you’re happy to pay back a smaller portion of the loan each month, then a fixed-rate loan is probably better for you.