Equity release is a method by which homeowners use the value of their property to secure extra capital. Equity refers to the difference between market value of a property and the outstanding mortgage debt on it. So the equity available to a homeowner is fundamentally what would be left over if she sold the property and cleared the mortgage. However, there are other factors that affect the amount of equity an individual can access, meaning each individual case is different.
How it works
A homeowner applies to a financial institution to release the part or all of the equity in her property. The institution -- such as a bank or building society -- assesses the value of the property in the current market. This value and individual institutions' conditions determine how much a homeowner can borrow. There are two equity release schemes available.
Most people choose a lifetime mortgage. This involves taking a loan out against the equity available in your property that will be paid back when the house is sold (either when you die or move to a care facility). The loan can be taken as a lump sum, a monthly income or a "drawdown" amount. The latter means the money is set aside and the individual draws on it as and when required. The benefit is that interest is only paid on the money withdrawn, rather than being compounded in the lump sum and monthly income versions.
The second type of scheme is home reversion. This involves selling equity in the property to a company in return for a lump sum or monthly income, and the right to remain resident in the property. No interest accrues on the loan, but when sold, the homeowner or her estate only receives payment for the percentage of the house she still owns -- the home reversion company gets the rest.
Who it is for
Equity release schemes are aimed at older homeowners typically with no outstanding mortgage repayments. Most financial institutions offering equity release schemes have a minimum age, which is usually 55 or 60 years. The schemes can be useful for those who have assets - - their property - - but an insufficient income stream from pensions, work or investments.
Factors affecting release value
The amount of equity you can release in your home depends upon a number of factors. The value of your property in the current housing market is the most decisive factor. Assessing the buoyancy or otherwise of the market is important when deciding when to apply for equity release. The financial institution will also limit the amount you can release dependent upon your age and a limit they put on the percentage of the property you can access -- this varies between institutions, but is often a maximum of 50 percent in lifetime mortgage schemes and 100 percent for home reversion.
In a simple example, imagine your home is worth £100,000. You wish to release 20 percent of its equity, or £20,000. If the financial institution you apply to agree to that amount, it will set an interest rate on the loan. If the rate is, say, 5 percent and you sell your home in 10 years, the institution receives around £25,000 in return for the loan.