Equity release: is it time to cash in on booming house prices?
01-28-2014
Bulging property values mean homeowners are releasing equity at the fastest rate since 2008
By Richard Dyson
Homes are again the piggy banks from which owners are releasing torrents of tied-up cash. The latest figures for equity release – the technical term describing the process by which over-55s tap into the wealth tied up in their property – shows withdrawals topped £1bn in 2013 for the first time since before the crisis.
In 2007, the the biggest-ever year for equity release, 30,000 borrower signed up. That figure almost halved to 16,000 in 2011. It was back at 19,000 last year. The higher sums being borrowed, reaching an average £60,000 for the first time ever, accounted for the high total withdrawn.
Resurgent house prices across the country are part of the reason, commentators said.
Rollover for sound
But is it wise to withdraw equity as house prices recover?
Equity release schemes have changed and now almost all operate as “lifetime” loans. There is no set term and no payments are made to the lender, either of interest or return of capital, until the borrower dies or sells the home for another reason. The interest accumulates all the while.
From a financial point of view the key factor is the relationship between future house price growth, the interest rate on the loan – and the period for which the loan runs.
As the interest is compounded the debt mounts significantly. But house prices have also surged, with long-term average annual growth – as measured by the Halifax House Price Index over the last 30 years – of 4pc. Over the next few years the consensus among forecasters is of a more rapid annual growth than this long term average.
But even at a lower rate of future house price growth, say 2pc per year, the cap on the proportion of a property’s value that can be released means borrowers stand a good chance of their own equity in the property keeping abreast of their debt, unless the loan runs for a very long time.
Equity release rates are fixed for the life of the loan, giving some security to borrowers. It is also possible in some cases to “re-mortgage” the deals in future years, if rates and available deals make this viable.
The table, below, shows a range of outcomes where equity is released at today’s current average loan rate of 6pc. A borrower aged 65 in a property worth £250,000 would be able to release up to a maximum of around £80,000 but the calculations here are based on a £50,000 withdrawal. In the worst scenario set out here, he or she borrows over a long period of 30 years, during which house prices rise by a below-trend average of 2pc per year.
In that case the £200,000 equity retained today, at the outset of the loan, ends up as £154,000 in 30 years’ time. That would mean the homeowner’s slice of equity falls from 80pc to 33pc.
Would equity release work out for you? Do the sums
Would equity release work out for you? Do the sums
Your house is worth £250,000 now and you release £50,000 at a rate of 6pc which rolls up, compounded. This is how much you will owe after:
| 10 years |
15 years |
20 years |
25 years |
30 years |
|---|---|---|---|---|
| £91,000 |
£123,000 |
£166,000 |
£223,000 |
£301,000 |
But what will your house be worth? Assuming steady house price inflation of 2pc, 5pc or 7pc, the answer is:
| House price inflation: |
10 years |
15 years |
20 years |
25 years |
30 years |
|---|---|---|---|---|---|
| 2pc |
£305,000 |
£337,000 |
£373,000 |
£412,000 |
£455,000 |
| 5pc |
£412,000 |
£528,000 |
£678,000 |
£870,000 |
£1,117,000 |
| 7pc |
£502,000 |
£712,000 |
£1,010,000 |
£1,431,000 |
£2,029,000 |
Would equity release work out for you? Do the sums
Your house is worth £250,000 now and you release £50,000 at a rate of 6pc which rolls up, compounded. This is how much you will owe after:
Why do you need to release equity?
A period of above-normal rises in house prices would reduce the impact of the loan, meaning now might seem a good time to release equity.
But, as lenders point out, the reason why people turn to equity release can largely dictate when they do it.
The most common reason cited by borrowers is a need for money to repay what it left of a traditional mortgage. Here, the regular monthly payments required by the standard mortgage lender are turned into the deferred repayments of an equity release arrangement, freeing up income to supplement pensions or for other purposes. The second most common reason is to pay for home maintenance or improvement.
Stephen Lowe of Just Retirement, a provider, said: “Most people release equity to top up pension savings and so there is relatively little flexibility about when they do it. But looking back over ten or 15 years, it’s clear house price growth does play a part – a sense of rising property wealth makes people more confident.”
But in this housing recovery motive is emerging. Stonehaven, a rival provider, surveyed the advisers selling its schemes and found that a new trend was coming to the fore - parents releasing equity to provide their children or grandchildren with the deposit to buy their own home. This was now the third most commonly cited motive, Stonehaven said. In a rising market this can enable two generations to increase their combined property ownership.
For older owners of valuable homes, inheritance tax planning is also a consideration. The £325,000 individual’s threshold, above which estates are taxed at 40pc, is set to remain unaltered for another four years at least.
Nigel Waterson, chairman of the industry trade body the Equity Release Council, said as more families fell within the net, more were likely to borrow in order to move assets out of their estate. “But it’s still at the top end of the equity release market,” Mr Waterson said.
How much is needed..?
Because most big providers of equity release promise borrowers that their debt will never be greater than the value of their house, the amount you can borrow is strictly limited. The average borrower, aged in their late sixties, can typically release nor more than 35pc of the property’s total value.
Even so most do not release that much. Key Retirement Solutions, which has collated data over many years, says that between 2007 and 2013 borrowers have tended to take about three quarters of the maximum allowable. So in 2007 that was an average £45,000, where £70,000 would have been the most allowable, and last year it was £56,000 out of £82,000.
...and how can you reduce the risks?
In the last five years equity release has become more flexible. Borrowers can apply for a bigger sum than they initially need, and then draw down money as required in future. This limits the overall interest bill. During periods of rising prices, as now, it means the homeowner benefits more from ownership. Other flexible features include the ability to pay interest on a monthly basis, when borrowers can afford to – but with the option to stop.