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What are the Pitfalls of Equity Release?

Everything has its downsides, especially when it comes to financial solutions. If equity release is under consideration to relieve your monetary concerns, understanding the pitfalls of the schemes is essential.

Learn more about them in this guide.

What are the Pitfalls of Equity Release?

Equity release schemes may seem feasible for financial issues when you’re over 55. However, it’s vital to recognise that there are pitfalls with the plans, just like any other financial product.

We’ll list below some of the most significant pitfalls prospective borrowers should understand before committing to an equity release program.

The money you get will be less than the actual value of your home.

One of the most concerning pitfalls of equity release is the amount of equity you unlock with the value of your home. Yes, borrowers can get a large sum of cash relatively quickly to supplement their income. But ultimately, the figure received will not align with the property’s correct value.

The shares you receive, whether in lifetime mortgages or home reversion schemes, have around 30-60% of the property’s actual value. That is because the lender has the final say on the property’s valuation, and arguably these figures will be less than the accurate market value.

The bottom line, you’ll release equity, but the compounding interest and other factors will far exceed what you would get if you sold your home straight up.

You’ll effectively no longer own your property.

This pitfall mainly applies to a home reversion scheme. However, it can also apply to a lifetime mortgage. Equity release essentially unlocks capital in exchange for a percentage of the value of your home. The house will get sold post-death or after the borrower receives admission to care facilities.

In a home reversion scheme, you’ll sell off a percentage of the property, meaning the lender will partially own your home. A lifetime mortgage doesn’t relinquish ownership. But there’s an almost exclusive guarantee that your home will have to sell to pay back the borrowed amount, meaning no control over what happens to your house.

Many won’t like the idea that their hard-earned property no longer belongs to them or have no say about its sale when estate planning.

Downsizing can be more costly than expected.

Many equity release providers will offer downsizing protection in plans. However, even with this feature, the process can get complicated and, in many instances, costly.

The process of downsizing involves selling your current home and moving into a less expensive property. If you’ve taken out equity release and there’s no portability on the plan. There will be an expectation to repay the loan, often with hefty early repayment charges.

Even when downsizing protection gets added to your plan, the property you move into must get approved by the lender. That restricts choices on the property and still having to incur the personal financial costs of moving.

Taking out an equity release on a property means you have to be sure you’ll remain in your current property. Otherwise, downsizing can cause some complications in the future.

The fees involved in equity release applications can be expensive.

The one core focus of equity release is getting that large sum of cash or regular income against the value of your home. It’s often forgotten that many mediums in applying for the loan will charge their fees to complete the application.

Successful completion of the equity release application means that you’ll pay surveyor’s fees, solicitor’s fees, lender’s fees, and the costs of your financial advisor. Those expenditures can add up to a significant amount against what you get on your loan, meaning that you won’t get as much as expected.

You’ll potentially lose your benefits.

Another pitfall many equity release applicants overlook is that gaining such an ample cash sum can make you ineligible for benefits. These include your tax position, pensions credits, and other council benefits.

The UK Government evaluates your need for these benefits. Suppose you’ve suddenly come into a significant pot of cash. In that case, the current analysis method deems that you don’t need any state income to assist with your living expenses. Despite the money you get from equity release, many older persons budget state benefits into their livelihoods, and missing out on them could hinder their financial plans.

Many fall into the trap of taking out more money than necessary.

Finally, another of the most significant pitfalls in equity release is that many applicants will take out the maximum possible amount. It’s understandably tempting to take out the most considerable sum to top up your income for your retirement. However, eventually, that colossal figure can cause more problems than it’s worth.

The loan you take out will eventually have to get repaid. Your children (or other estate beneficiaries) will likely have to deal with the fallout of yourself taking out a large amount in equity release. That includes the compound interest rolling up to the total value of the property, leaving nothing behind from the proceeds of the home sale.

We’ve dived into what constitutes the more concerning pitfalls of equity release, of which there are a few. The negatives listed may contribute to whether equity release is worth the potential issues it can cause.

There are also little-known truths about equity release that underline the pitfalls.

Here are 4 Little Known Truths About Equity Release

Discover a few little known truths to take into consideration about equity release.

1. The no negative equity guarantee isn’t as fantastic as it seems.

No negative equity guarantees will often get advertised as a highly beneficial perk of an equity release plan. The term means that you’ll never have to pay back more than what your home is worth or that the loan’s balance won’t exceed the proceeds of your property’s sale – even with compounding interest.

However, no negative equity is an Equity Release Council (ERC) rule that applies to all equity release plans. Even ones that don’t have ERC backing will offer this feature to attract clients – but why is this not as great as it seems?

It’s easy to think this is a unique feature of the provider or plan and can mask the more concerning aspects of a program. These worries include high-interest rates or expensive early repayment charges. Make sure you understand a plan’s terms and conditions before committing to one because it has a no negative equity guarantee.

2. There’s often great expense to pay back your loan early.

On the subject of early repayment charges, there’s often the idea that equity release follows the principle of every other loan. That means that you can pay back early without incurring hefty penalties. That’s not the case with equity release, considering your plan gets granted on the idea that there won’t be any repayments until your house gets sold.

Most plans have significant early repayment charges if you want to repay your equity release for whatever reason. ERC rules have recently come into force that must allow some repayments without penalties, but clearing the debt could be very expensive.

3. Children get left with little inheritance after equity release.

Suppose you plan on leaving your children an inheritance after you pass away. In that case, you may feel that the sale of your home will give a sufficient amount to cover the balance of your equity release loan and have some cash left over. The reality is that the rolling interest on your lifetime mortgage or ownership share of your home reversion scheme will likely not leave too much behind, if at all.

There could be an overestimation of your property’s value, which doesn’t rake in as much as expected when sold. The provider is only interested in recouping the debt, meaning it will take the amount required in the transaction, not worrying about what’s left for the children.

There need to be engaged conversations with your financial advisor to ensure that your equity release scheme aligns with your estate planning goals.

4. You’ll miss out on your increasing property value.

Another forgotten truth about equity release is that house prices will likely continue to rise. That means that the value of your home could significantly increase over the years, meaning there’s quite a profit at stake when you eventually come to sell.

Securing an equity release loan means you won’t be able to take full advantage of increasing house prices. You’ll get locked into a valuation and accrue interest on a loan against that property value. Therefore, you can’t sell the home until you pass away or move into long-term care.

Ultimately, waiting a few years to sell your home could unlock significantly more capital than taking an equity release loan against the property.

So why do we share these little known truths? They form the basis for the equity release horror stories out there.

Of course, these negative experiences make up a slim minority of the general equity release tales. However, it’s critical to share to gauge the pitfalls of equity release. The stories will remind you to review and think about the loan before you take one out.

Equity Release Horror Stories

We compare plans from the leading equity release providers

Here are some real horror stories from those who have taken out equity release plans.

Elderly Couple Faces the Reality of Compounding Interest

The story of older couples not understanding how compound interest works in equity release is too familiar. In 2003, a couple were granted just under £50,000, which they had taken out to purchase a boat for retirement.

Unfortunately, their loan’s 7.1% interest rate raised the alarm. The couple’s debt had accumulated nearly £120,000 over 12 years, without realising how much had compounded because they did not have to repay them. The significant figure was a considerable concern, as their financial plans included leaving some money from their home for their children as an inheritance.

The panic of the continued rolling interest forced the couple into paying the loan off early, incurring hefty charges on top of the already eye-watering figure. The couple had to use their savings and borrow cash from friends and family to clear the debt, which threw all their finances into disarray.

Intrusion, Inconvenience, and Expense

The idea behind equity release is that you get the funds and don’t have to worry about anything until the house gets sold. This notion was not the case with this couple, that saw more hassle than expected after taking out a home reversion scheme.

The couple sold 75% of their home to a provider from around 33% of its value. The lender now owned most of the property, and they began to treat it as their own. They would send surveyors to constantly monitor its condition and scrutinise the couple for not maintaining its stature.

The providers would insist that the property receive renovations at their expense to ensure a maximum profit for the sold home. Not an ideal scenario when you want to enjoy freedom in your remaining days in the world.

Inflicting Issues on the Entire Family

This gentleman’s parents took out an equity release package with interest that amounted to £15,000 a year. The compounding amount has essentially gone up to the value of the entire home, so when sold, there’s nothing left for him or to manage other family affairs.

He now had to sell his home to take care of his parents after they ran out of money and moved into long-term care. He feels he’s working for the lender to pay off all the debts accrued because of this equity release, leaving more than just this elderly couple in difficulty.

So should you still consider equity release after these experiences, pitfalls, and little-known truths?

Should I Still Consider Equity Release?

Recognising that equity release can also benefit circumstances and serve as a decent solution to financial issues is vital. However, it’s just as essential to understand the plans’ positive and negative features and weigh whether it’s right for you.

We discuss whether equity release is a good idea in another article, where we recommend reading to get more informed about the scheme. Consulting with an independent financial adviser can also be of assistance in providing equity release advice.