Look before you leap

How best to unlock the capital in your home

The market for home equity release schemes is steadily rising and the chances of an elderly client asking you if the plans are a good idea will increase with it. Whilst it is always advisable to recommend to the client that they should get independent legal and financial advice before taking out an equity release scheme the adviser should have a basic idea about how the plans work and the factors to be taken into account when deciding which plan is best.

Elderly people are living longer property values are rising and slowly but steadily state provision is being withdrawn. These are some of the reasons why equity release plans are becoming popular .

How the plans work

What essentially are equity release plans? Basically they are a means by which a homeowner can unlock the capital in their home to provide them either with a cash lump sum a regular income for life or both. Essentially there are two main types of schemes.

Home reversion scheme

The most popular plan is the home reversion scheme . Here the homeowner sells all or part of their home to a reversion company. In return the homeowner remains in the house for the rest of their life rent-free or for payment of a nominal rent and receives a cash lump sum or a monthly annuity income. When the house is sold (which usually occurs when the homeowner dies) the reversion company will receive a part of the sale proceeds. For example if the homeowner sells 40% of their home the reversion company will receive 40% of the sale proceeds.

Home income plan

A home income plan is essentially a mortgage loan that a homeowner takes out to buy an annuity which pays a regular monthly income for life. Interest payments on the loan are deducted from the monthly income. The planholder retains full ownership of their home and continues to live in it. No payments on the capital are required during the planholder’s lifetime. The capital is repaid from the sale proceeds usually when the planholder dies.

Which plan is best for your client ?

As Mark Goodale identifies many new providers are entering the equity release market and are advertising their plans in newspapers and magazines. Request for information will result in enquirers becoming inundated with glossy brochures each extolling the virtue of their product over others. Your client can become lost and not be able to see “the wood for the trees”. It is helpful therefore to have in mind important points to consider when coming to a decision about what type of plan to take out.

1 Reason for taking out a loan

The first issue to be addressed is what does your client wish to do with money that they hope to receive from the plan? Is it to fund future care or pay for a holiday of a lifetime ? Are essential repairs needed to the home? For these reasons the cash lump sum option may be preferred. On the other hand if your client wishes to supplement their pension with additional income to allow them to enjoy a better quality of life then an income plan would be a better option. A home reversion scheme would not be suitable for a client who wishes to preserve their assets for close relatives.

2 Life expectancy

If your client is very old or of poor health their life expectancy will be seen as low. In this case your client should consider how long they would benefit from a plan that gives them a monthly income. On the other hand the older the homeowner the higher the cash lump sum they would be offered by a reversion company for a share in the property. This is because the company would have less time to wait to recoup their investment.

3 Social security entitlements

It is important for a client receiving social security to know how his or her benefit will be affected if they take out a plan. They may lose means tested benefits such as council tax benefit or income support if they receive weekly income or a cash lump sum from a scheme. Loss of entitlement to benefits such as free dental care must not be overlooked. The client must check that the additional income from the plan will be enough to make up for any loss of benefit and related entitlements.

4 Family Expectations

If it is your client’s intention to leave their house to close relatives on their death they should be advised to consult with them about their plans because an equity release plan will reduce the size of the estate. If on the other hand the homeowner has no close relatives or does not care what is left for them they may prefer to take out a high loan to value scheme. Close relatives should nonetheless be told about the arrangement in order to avoid upset and misunderstandings.

5 Future plans

Your client should take into account any likely change in their lifestyle or living arrangements. For example if a friend or relative moves into the home to provide care the plan would still come to an end on the death of the homeowner and the house would be sold.

The scheme should be assessed to see if your client would be allowed to move home. Some plans will allow your client to move without ending the scheme subject to the value of the new property. An elderly client may wish to sell up completely and move into residential care. For this reason the plan provider should be asked if your client will be penalised for bringing the plan to an end before death.

6 Fees

The plans will involve legal and survey fees. Also some providers charge an administration fee. If your client takes out a scheme through a financial adviser they should agree at the outset how the adviser will be paid for their services. Most providers pay a commission to the adviser for selling the plan. Your client may prefer an adviser who charges a fee and agrees to give them any commission received. In all circumstances your client should be clear about what charges they will incur before a plan is selected.

7 Lending Criteria

Some companies will only accept applications from people living in freehold houses as opposed to leasehold properties. Most providers will only accept applicants with a minimum age of 70 for single applicants and joint ages of 150 for couples. Maximum loans of no more than 75% of the value of the property are not uncommon.

8 Safe Home Income Plan Scheme (SHIP)

A check should be made that the company offering the most attractive scheme is a member of SHIP. Members agree to a code of practice and guarantee that planholders have complete security of tenure with the right to live in the property for life.

Conclusion

Equity release schemes are appealing to elderly clients who are capital rich but income poor. They provide a means to enjoy a higher standard of living in the twilight years. Care should be taken by your client to ensure that the plan they choose meets their objectives and they know the consequences the plan will have on their current income lifestyle and family commitments.

Michael Stennett Solicitor and independent financial adviser.