Lump sum and drawdown mortgages
Equity release plans are more flexible today due to increasing competition and you can take a combination of single lump sum and drawdowns in the future while retaining 100% ownership of your home.
If you release cash from your home
, a lump sum mortgage is ideal if you have large purchases in mind such as extension to your home or gifting the deposit to children or grandchildren to buy a property.
You could also consider a retirement interest only mortgage
(RIO) for lump sum cash although your income would need to high enough to satisfy the lenders affordability and stress test rules.
A reserve facility using drawdown is useful if you have a smaller initial purchase such as buying a new car, holidays, gifts to family and intend to return later with future buying plans.
If you take the maximum lump sum initially it would not be possible to have a reserve for future drawdowns and the interest rate you pay would be the highest at over 6.0% pa. Over time if house prices rise
, it may be possible for the provider to give a further advance.
By taking a smaller initial lump sum and a future reserve the interest rate can be much lower below 3.0% pa. It is important to remember that you only pay interest on the amount you borrow using a lifetime mortgage. This can make equity release a highly effective option for accessing cash while leaving equity for your family.
Acceptable property for equity release
Unlike residential properties providers offering equity release have more exclusions when it comes to the type of property they are willing to accept. This is due to their risk when eventually selling the property and requirement of funders. If your home is not acceptable you may need to consider other ways of raising extra money
If you own a well-presented house, in good condition and of standard construction, it is freehold in a residential area and no more than flood zone 2, then you have ticked many of the acceptable property boxes although other external factors could mean it is excluded.
Some reasons why your property may not be acceptable would be if your home is in flood zone 3, it is located close to fracking, landfill sites, airport runways, on a high street with retail shops, Japanese Knotweed, a wind farm, telephone masts, electricity pylons or power substation near the house as these issues could reduce the resale value of your home.
Some providers may consider certain type of property as not being acceptable such as flats above six floors, ex council flats, properties with walls containing asbestos, concrete slabs, certain types of timber or steel frames. Properties with a thatched roof, large areas of flat roof, large amounts of land or with leased solar panels may not be acceptable.
Check to see if your property is acceptable at this link:
Free equity release quote with our expert advice to check your property
The quality and current condition of the property is important as a valuer can apply a retention typically up to £5,000 where repairs are required, such as damage to your windows or roof.
This means the provider valuation and offer
would not include the full cash release requested and the balance of up to the retention is paid later when the repairs are completed.
Loan to values based on age
Providers base the amount you can release from your home on the loan to value (LTV) which is a proportion of the property value. Your age is the key factor and if an application is joint, the age of the youngest person is used to determine the LTV.
The provider loan to value
for a lifetime mortgage is applied for both lump sum and drawdown plans and as this percentage increases the fixed interest rate will also increase reflecting the higher risk to the lender.
The table below shows the maximum loan to values based on the property valued of £375,000 for ages from 55 to 85 although older homeowners can consider equity release such as for home improvements and care at home.
|Loan to value
The minimum age for equity release is 55 with a maximum loan to value of 29% and increases up to the age of 85 with a percentage of 58% which is the maximum even with older homeowners.
The loan to value could be increased slightly if you have medical conditions as this reduces your life expectancy and applies if you are releasing the maximum lump sum from your home.
Provider fixed interest rates
By releasing equity using a lifetime mortgage it is important to know interest rates are fixed for your lifetime and will not rise due to inflation or higher bank base rates.
You can have a clear expectation of how interest roll-ups over time or know you can pay part or all the interest each month without the mortgage increasing. This means your beneficiaries are more likely to receive equity from the property at some point in the future.
The table below shows the maximum loan to value for ages from 55 to 85 years where interest rates are lower than 3.0% pa, 4.0% pa and 6.5% pa. The loan to value has been increasing slowly over time with more competition from providers.
Interest rates are higher if the loan to value as a percentage of the property value is higher and the 6.5% pa level is the maximum LTV possible which is also the most expensive for roll-up interest. For example, if you are aged 75 years and intend to repay an interest only mortgage
with a 51% loan to value the interest rate would be 6.2% pa.
For equity release where interest rates roll-up as you have chosen not to make an overpayment each month, the longer the term of the plan the lower the amount of equity for the beneficiaries as the interest is compounding over time. A female aged 60 year old could live for a further 26 years compared to a 75 year old with 14 years.
To reduce the cost of equity release
due to interest roll-up you should ensure your loan to value is low resulting in a low interest rate if you are under 60 whereas you can consider larger LTVs if you are aged 70 and over.
By selecting a slightly lower percentage for equity release you can significantly reduce the interest rate and therefore the cost of the mortgage over time. The lowest interest rates are about 2.5% pa apply to a loan to value of 15% for those aged from 55 to 62 years.
If you are aged 63 to 72 years you can maintain the 2.5% pa low rate by releasing of 20% of the property value as cash and if you are aged 73 to 77 years this can be higher at 25%.
If you need to repay an existing mortgage you could downsize your home and release cash
using equity release with a low interest rate. For older homeowners you aged 78 to 84 you can have a loan of 30% with the lowest interest rate.
Lump sum cash upfront
This type of plan uses a lifetime mortgage paying a one-off lump sum to spend how you would like with the loan secured against your home, interest rates are fixed and there are no monthly repayments.
You can even buy a house using equity release
which you can live in for your lifetime with the original loan and rolled-up interest repaid on your death, when entering care or when the property is sold.
If you need a smaller lump sum initially and retain a reserve facility for future cash releases, you should consider a drawdown plan that offers this flexibility which is discussed below.
Provider Just Retirement has data for those with lump sum plans showing the average house price of £245,500 and the Equity Release Council state the average lump sum cash is £104,500 or 42% loan to value.
Many homeowners consider taking the maximum one-off lump sum from their property and this will mean the interest rates are at the highest level. Usually this is to repay an interest only mortgage
and release additional cash with no restrictions on how you spend your money.
Rather than takin the maximum lump sum, if you take a lower amount interest rates reduce significantly (in the example below from 6.13% pa to only 3.88% pa) and this gives you a better chance to release cash in the future if needed.
The reason for this is interest is rolled-up over the life of the mortgage compounding with interest paid on interest and the cost of the loan rises when it is eventually repaid. You can replace an existing equity release plan
if the new plan has a much lower interest rate.
By keeping interest rates lower you reduce the compounding effect and as this is a lifetime mortgage you own 100% of your property and will benefit more significantly from future equity growth.
For example, let say you are aged 75 with a property value of £375,000 and mortgage of £105,000. You can release a maximum loan of £191,250 or 51% loan to value at an interest rate of 6.13% pa repaying the current mortgage and additional cash of £86,250.
If you take a smaller lump sum of £185,200 or 49% LTV of the property value, the interest rate reduces to 4.79% pa. This means after you repay the mortgage of £105,000 you have additional cash of £80,200 at a much lower interest rate.
Find out the impact or interest rates by taking lump sums with equity release using this link:
Free equity release calculator with instant results to access lump sum cash
By looking at releasing £176,200 or 0.47% LTV the interest rate falls to 3.88% pa repaying the £105,000 mortgage and leaving £71,200 cash. This can allow more equity in the property due to interest rolling-up at a much slower rate and open up the potential for a further advance in the future.
You can reduce the cost of roll-up interest by making make a penalty free repayment of as much as 10% of the loan and make overpayments each month for some of the interest as you go.
Drawdown cash over time
Taking a drawdown plan offers similar features to the lump sum plan except the provider includes a facility for you to have an initial lump sum and a facility to take smaller future amounts at any time to spend as you wish.
The advantage of drawdown is you only pay interest on the cash you release while having a reserve available. This could be useful if you relocate and buy a new property
and want a reserve for future home improvements.
Each time you release cash the interest rate at the time would apply, which could be lower and this staggered approach to the mortgage helps reduce the cost of compounding roll-up interest during the term of the plan.
Research from Just Retirement for drawdown plans shows the average house price is £292,500 and the Equity Release Council state the average initial lump sum is £81,700 or 28% loan to value with a reserve of £33,500 for future use. You only pay interest on the loan and not the reserve.
As an example, you maybe 75 years old with a property value of £375,000 and mortgage of £105,000. You use drawdown to initially release £105,000 or 28% loan to value with a reserve of £82,500 and the interest rate is 5.83% pa. Overall, this is a 50% LTV and is very similar to the lump sum option.
If you take the same initial amount but smaller reserve of £76,800 the interest rate reduces to 4.60% pa. By taking a smaller reserve of £70,800 the interest rate reduces to 3.96% pa and this makes a difference as you are paying the interest on the original £105,000 mortgage immediately.
Drawdown plans give you greater flexibility than lump sum plans as you can take an initial amount and can decide when or if you take any further cash release. This could help you if you claim means tested benefits or if you need cash for specific reasons such as help children or grandchildren, need to fix the roof or buy a new car.
Even though drawdown plans can have lower interest rates than lump sum plans, you can reduce the impact of roll-up interest by making up to a 10% a penalty free overpayment against the interest which can realise more equity in the future.
Some disadvantages of the drawdown plan is the maximum loan to value is slightly less than the lump sum option, you may pay slightly more in the interest rate from some providers and when you take cash from the reserve in the future, interest rates may be higher.
Types of plan structures to consider
If you intend to make overpayments in excess of the 10% penalty free amount offered by lenders, you need to be aware of the different plan structures and implications in the future.
Providers apply early redemption charges (ERC) if you intend to repay more than 10% or the lifetime mortgage each year and there are two types either fixed penalty or gilt based penalty.
The fixed penalty is a charge based on the amount to be repaid and may start at 10% in year 1 reducing by one percent each year until it is zero from year 11 or it could be a flat rate of say 6% for the first five years and zero from year 6. This plan is best if you intend to repay the mortgage early
as the fixed type gives you the certainty of the ERC you will pay.
The gilt based penalty is more complex and is based on the 15-year gilt yields. When the lifetime mortgage starts the plan is allocated the gilt yield at that time called the benchmark.
If gilt yields stay the same the charge for repaying the mortgage could be about 6% of the amount repaid. If gilt yields fall by 0.5% the charge could increase to 20% of the amount repaid which is typically the maximum percentage charge you would pay. If gilt yields rise even by just 0.2% the charge would be zero.
If you do not intend to pay more than 10% of the lifetime mortgage in any year then either method could be used such as when using equity release to buy a dream home in retirement
and do not intend to move.
There are reasons why no ERC would apply such as after your death or each of you die if joint or enter long term care. There is no ERC if the property is sold within a certain number of years (such as 3 years) of the death of one applicant. Where you buy a new home and transfer the mortgage to the new property making a partial repayment.
Our equity release advisers can explain these plans and the calculations for the early redemption charges before you make an application through LCM
, to help you make an informed decision of the best option to meet your needs.
Product features of lifetime mortgages
With more competition from providers new features are being expanded or introduced on a regular basis offering homeowners greater flexibility.
|Features of a lifetime mortgage
|Cashback offers from providers
|Free valuation and application fee
|Make interest payments each month
|Up to 40% penalty free overpayments
|Inheritance protection for your family
|Adding or removing a borrower
|Access to a further advance
|Add a reserve facility for cash
|Moving to a new home penalty free
When taking out either the lump sum or drawdown plan some providers incorporate a cashback offer of up to 5% of the loan. This can be a valuable offer if the interest fixed rate for the mortgage does not increase as there is no interest applied to the cashback and it does not need to be repaid.
Application fees can be added to the loan although this would increase the amount that would need to be repaid when the property is sold. The provider may offer a contribution to the legal costs and most providers offer free valuations and no application fee reducing the cost of equity release.
To reduce the cost of the lifetime mortgage and increase the potential for an equity for your beneficiaries
, you can make an interest payment each month. In some cases this can be as little as quarter of the total interest and you may receive a lower interest rate on the whole mortgage.
Other features are early redemption charge (ERC) exemptions allowing you to reduce the mortgage without any penalty. Usually this is up to 10% of the original mortgage amount and some lenders allow 40% ERC free.
This means you could repay the mortgage within a three-year period with only a small exit charge applied. The exemption allows you to make overpayments or ad hoc payments at any time with low minimum amounts.
If leaving a lump sum to your family is important to you, you can add inheritance protection so at least a proportion of the property value will go to your beneficiaries.
For example, if your property is worth £300,000 and you want 30% of the sales price for your family, the maximum equity release is based on 70% of the property value or £210,000.
Lifetime mortgages allow you the flexibility to add a new borrower such as after a marriage or civil partnership. For a joint mortgage you can also remove a borrower if one of you decides to leave the property for any reason.
For a lump sum plan a further advance may be possible if the property value has increased since your initial equity release. Some providers charge a higher interest rate for a further advance and it is worth comparing the provider products if this is important.
Adding a reserve facility to the mortgage is popular and allows you to come back later to access further cash for a specific reason
and in some cases you can have the funds within a week.
This is available in a drawdown plan and is cost effective as you only pay interest on the equity released, not the reserve. With some providers the interest may be slightly higher if there is a reserve facility or charge a higher interest, so it is important to check all provider products.
You can move home with a lifetime mortgage such as downsizing to a smaller property. The providers may require you to repay part of the mortgage based on the loan to value although most allow you to do this without an early redemption charge being applied.