Considering an equity release scheme? Jane Baker explains how you can unlock the cash from your home, but still ensure your heirs receive a significant inheritance.
If you find you're a little strapped for cash in retirement you may be tempted to cash in on the value of your home using an equity release scheme. But beware: not all schemes are the same...
Last week I looked at how to use a lifetime mortgage to release equity from your home in A Mortgage With No Monthly Repayments. Although these plans can provide much needed cash they're not a perfect solution. Because there are no repayments, the interest you owe rolls up quickly and could eventually wipe out all the equity in your home.
Today, I want to look at an alternative way of releasing equity: a home reversion scheme. This involves selling all or a share of your property to a home reversion company, usually in return for a tax-free cash lump sum.
Unfortunately this sum is likely to be significantly below the market value of the share. But you will retain the right to live in your home for as long as you need to. On death (or when you move into long-term care) the property is sold and the company receives the percentage of the proceeds from the sale that they are entitled to, while your estate retains the rest.
In other words, if you sell a 50% share in your home to a home reversion scheme provider, your estate will receive half of the proceeds from the sale of your home after you die, while the reversion company receives the other half. In this way, a home reversion scheme allows you to ensure your property will provide an inheritance for your family, which you cannot do with a lifetime mortgage.
This is because, with a lifetime mortgages, interest accumulates continually until all the equity in the property has been eaten up, potentially leaving your estate with no inheritance from the sale of your home at all. By contrast, home reversions are not a loan and no interest is payable, so the home reversion provider's equity stake in your home cannot increase.
What's more, if you have chosen to keep a share of your property, your estate will benefit from any rise in the value of your property. And if you retain a portion of the property, some plans will allow you to take extra cash advances, as long as there's enough remaining equity.
How much will I get?
There's no interest to pay and, hopefully, it will be many years before you die and the property is sold. So how does a home reversion provider make it profits?
Simply by paying you significantly less than the market value for the share you sell to them. Take a look at how this works below:
Client Ages | Property Value | % Of Property Sold | Amount Received As % | Cash Lump Sum Received |
|---|---|---|---|---|
Male 79/ Female 75 | £150,000 | 100% | 47% | £70,500 (minus fees) * |
Source: Norwich Union. * = Fees include an application fee, valuation fee and legal costs.
In this example, a couple sells 100% of their home and in return they receive 47% of the amount they would have got, if they had sold it through an estate agent on the open market. And as they have sold 100% of the property value, they will have no inheritance to pass on to their estate.
Still, they retain the right to live in the property until they die (or move to a care home) and receive a cash lump sum of £70,500.
What do home reversion providers look at when deciding how much to pay you for your property?
- your age,
- your gender,
- what the property is worth and
- what percentage of your home you want to sell.
The older you are, the better value home reversions are. This is because the provider is likely to have less time to wait before the property is sold and it can realise its investment. Single women are also likely to be offered less for their share than a single man, because typically, women live longer.
So if, for example, this couple were both five years older, they could receive between 53% and 55% of the value of their home if they sold a 100% share (with Norwich Union's plan).
Some plans are more generous than others in terms of the amount you could get in return for selling a share of your home, so speak to a broker and make sure you get quotes from several reversion companies to get the best deal.
Remember, you should only release as much cash as you need. Any surplus held in a savings account will earn far less in interest than you would have sacrificed to a reversion company for releasing it in the first place. Your entitlement to benefits may also be affected if you have significant savings in the bank.
So, are there any disadvantages?
Here's a quick re-cap of some of the disadvantages of home reversion plans for you consider before you take the plunge:
- You won't receive the full market value of the share you sell.
- The reversion company will own a share of your home and will benefit from any increase in its value. Equally, they will share in any reductions too.
- Home reversions can be poor value for money if you die shortly after taking out the plan. Some providers, such as Norwich Union, offer a way around this however: an inheritance protection guarantee which protects the market value of your estate for the first four years of the scheme. There's more about this on page 6 of this PDF from Norwich Union.
- If you sell 100% of your home, you won't gain from any increase in its value but the reversion company will. You could miss out on strong house price growth in the future.
- As you are selling some or all your home, it may be difficult and expensive to buy it back if you change your mind. With some plans you may have to pay the full market value to buy a share back.
- A home reversion plan is likely to reduce the amount of inheritance your heirs will receive, so you may wish to inform them first before going ahead.
- There may be restrictions on whether someone else can move into your property once you have taken out a plan.
- If you only sell part of your home most schemes should allow further cash advances, but this is not necessarily guaranteed.
- Releasing equity from your home can affect your entitlement to certain means-tested state benefits such as council tax benefit and pension credit. Make sure you don't put your eligibility at risk.
These schemes tend to be less popular when house prices are rising. This is because the reversion company will benefit from the rising value of their share in your home which isn't particularly appealing to many homeowners. But if house prices reverse, we could see these schemes gaining popularity.
If you are tempted to take out a home rerversion scheme, think about it very carefully first. You will have to sacrifice a large proportion, if not all, of the value of your home to extract what will be a relatively small cash sum in return. So chat through your options with a professional, whole-of-market adviser before commiting yourself.
More: Why You Should Avoid Equity Release | Compare mortgages through The Fool.