How does equity release work? The pros and cons

If you’re over 55, equity release allows you to unlock some of the value in your home without having to sell up and move.

You take out a loan secured against your home from an equity release provider, which is then repaid when you go into long-term care or die.

It is a big decision which carries a number of risks, so you need to think carefully before deciding to go ahead.

This article covers:

• What is equity release?
• Equity release calculator
• The pros and cons of equity release
• How much does equity release cost?
• Different types of equity release: What is a lifetime mortgage?

Ready for equity release? Read our update of the best equity release rates

What is equity release?

Some people are finding themselves “house-rich but cash-poor”. This means that they have more value tied up in their home than they do in disposable income and assets.

Equity release is a way for older people to convert some of the value of their home into cash without having to move. You must be at least 55 to take out the product, which is secured against your property.

It is similar to a mortgage except the lender is usually paid back when you die. You don’t usually have to make any repayments each month.

Instead, the interest is added to your loan which is repaid when you die or go into long-term care. As a result the interest payments can cause the cost of the loan to balloon.

You have to get financial advice before you can take out an equity release loan.

You can also release equity through remortgaging which might be less risky.

How much money can you borrow?

The maximum amount you can borrow tends to be up to 60% of the value of your home, according to Money Advice Service.

Exactly how much will depend on your age and the value of your property. The percentage typically increases according to your age when taking out the product.

When deciding how much you can borrow, the lender will factor in:

• Your age
• How much your home is worth
• The state of your health

You don’t have to take all the money released in one go. You can withdraw it in:

• One cash lump sum
• Dribs and drabs
• A combination of both

If this doesn’t appeal to you, we outline the alternatives to equity release.

Equity release calculator

Use the free equity release calculator like the one below to get an idea of how much you can borrow.

The amount you could release depends on your age and the value of your property.

How have rising rates affected equity release loans?

Decades of rock bottom rates helped fuel an equity release boom, with borrowers unlocking £4.8 billion of cash from their homes in 2021.

But products are now being withdrawn and reinstated on higher rates due to market volatility.

For example, in October 2022, Standard Life increased the rates on one product range from 5.56% to 7.22%. A 1% increase will add around £1,000 a year to a £100,000 release of money.

Lenders are also reluctant to lend due to forecasts that property prices could fall.

Under laws enforced in 1991, products come with a no negative equity guarantee, which means the borrower will never owe more than the value of their property. Therefore, if house prices fall, there’s a risk of the debt overtaking the property.

Homeowners who have already released equity from their properties are typically protected from rate rises.

Find out the latest on UK mortgage rates.

What can I do with the equity released from my property?

You can use the money released from the value of your home in any way you wish. Here are some of the most popular uses of the cash:

1. To pay off a mortgage or debts

The biggest reason given to release equity in one’s home is to pay off existing debts.

It can lift the burden of monthly debt repayments in retirement, clearing any outstanding mortgage or other debts.

2. To fund home and garden improvements

An equity release mortgage could be used for home improvements such as a new kitchen.

It could also be used to future-proof your home – for example, by installing a downstairs bathroom, fitting a shower instead of a bath, or creating a lower-maintenance garden. 

3. To boost income

If your income from pensions is limited, you could use a drawdown equity release plan to top up your funds each month. With equity release, you can either:

• Take the cash in one lump sum
• Do it in stages and only pay interest on the smaller sums drawn down. This means it could work out more cost-effective as the interest builds up more slowly

4. For inheritance gifts or planning

Equity release allows you to pass money on to younger relatives at a time when it is most needed and not when you die – for example, as a deposit for a first home.

Additionally, while the amount owed in equity release when the home is sold may mean less is left for beneficiaries, it is also deducted from your estate when calculating inheritance tax. So it could reduce any IHT bill after your death.

5. To fund holidays and large purchases

Some people decide to use equity release to splash out on more expensive purchases such as a new car which they otherwise wouldn’t be able to afford.

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Equity release: pros and cons

Taking out an equity release loan can be a life-changing decision, allowing you to live more comfortably in retirement or splash out on a trip of a lifetime. But there are downsides to consider too.

These types of loan have proved increasingly popular in recent years as house prices have soared and interest rates have shrunk.

Throughout 2022, homeowners released a record £5.6 billion from their homes, according to Key Later Life Finance.

While certainly popular is equity release a good idea? Make sure you weigh up both the pros and cons which we outline below.

Upsides of equity release

• Can fund retirement dreams or support family financially
• You can continue to stay in your home for the rest of your life (or until you move into care)
• Do not have to make any repayments as the loan has to be repaid when you die or move into long-term care (though some products allow you to make repayments)
• Loan will never exceed the value of your property, which is reassuring in the event that house prices crash
• It is a way of giving cash to loved ones before you die
• Can save on inheritance tax

Pitfalls of equity release

• The interest rate is fixed for the entire period, which rolls up and could wipe out the entire value of your home. You could end up owing much more than you borrowed (though not more than the value of your home). 
• Reduces the inheritance you are able to pass on because the lender is paid back first with the property’s remaining value then shared between beneficiaries.
• It is a long-term commitment. If you change your mind or want to pay off the interest rates, you may have to pay a penalty to do so. Early-redemption charges can be as high as 25% of the original loan.
• Your circumstances may change: if you take out equity release as a couple and one person dies the other may find it difficult to continue living in their old home and want to move somewhere smaller but won’t be able to.
• It may also affect any means-tested benefits you are entitled to; so you could lose your entitlement to: reduced council tax, free sight tests and help with the costs of glasses and dental treatment
• The condition and value of your home are taken into account in deciding whether you are eligible for equity release.

Why choose equity release?

Equity release is not for everyone. The cheapest way to release the value in your property is to sell it and downsize to a smaller property – or move to a cheaper area. 

But many people don’t want to leave the family home, which is where equity release can be a good alternative.

It’s important to understand:

• The pros and cons, which we have listed in the section above
• The cost
• And the impact that it will have on the amount you have left to pass onto your family

Ideally, the decision to take out an equity release plan is one that you’ll make alongside your children or beneficiaries. 

Given the downsides to this type of loan, consider these alternatives to equity release first.

If an equity release plan is right for you, it’s also worth considering whether you can afford to make monthly repayments to your loan. If you manage to pay back the interest each month, you’ll have much more left to pass on.

Taking out an equity release product is a big decision

Before committing to taking out this type of loan you may want to:

• Speak to your family about your reasons for wanting to use equity release (and the consequences)
• Research different types of equity release products (some are more flexible than others): we list the top-rated equity release providers
• Seek independent financial advice (rather than opting for an adviser who is tied to a particular lender)
• Check that the equity release provider is authorised and regulated by the Financial Conduct Authority.

Find out: Best equity release companies

How much does equity release cost?

There are several costs to factor in before taking out an equity release loan.

1. Interest rates

Interest rates on equity release loans are the biggest cost to factor in.

While the interest rates on equity release loans are now a lot cheaper than they were decades ago, they can still drastically increase the size of the loan, particularly if you live for a long time.

Imagine you are aged 60 with a house worth £500,000 and you want to ensure you leave something to your children but don’t have much cash. If you released a cash lump sum of £60,000 now and paid interest at a rate of 2.56% then by:

• 75 the amount you owe would be £87,658
• 85 the amount you owe would be £112,863

Alternatively, if you are 71 with a house worth £326,000, and you released £68,000 with a 2.51% interest rate then by:

• 75 you would owe £75,084
• 85 you would owe £96,192

However, some equity release products now allow you to pay off the interest payments to prevent the size of the loan from ballooning.

2. Set–up costs

Also bear in mind that there are set-up costs for equity release too, which average between £2,000 and £3,000 in total.

Equity release provider LV said:

• Application fees are around £600
• Customers’ legal fees range from £500 to £600
• Valuation fees can vary according to the property value, but many lenders offer free valuations from time to time.
• The average level of adviser fee is around £1,000

3. Early-repayment fees

If you wanted to try and pay off some of the debt, the early-repayment penalties can be as high as 25% of the initial borrowing. 

So if you are considering this option, you have to be 100% sure it’s the right route for you.

You can read how 65-year-old Jane has used equity release alongside her part-time job and state pension.

Different types of equity release: What is a lifetime mortgage?

There are two main types of equity release, with lifetime mortgages being the most common. The money released in both is tax-free.

Lifetime mortgage

The lifetime mortgage is the most common way of releasing equity.

• You borrow some of your home’s value (normally up to 60%)
• The loan can either have a fixed or capped interest rate
• The cash can be taken in one go as a lump sum or in stages when you need it (known as a lifetime drawdown mortgage)
• If you take the money out in stages up to the agreed amount, interest is charged on that amount rather than the whole sum available
• You don’t have to make monthly repayments, so the interest compounds because the amount you owe is continuously increasing
• The loan is paid when you move into long-term care, sell the property or die

Home reversion plans

With home reversion schemes are much less popular than lifetime mortgages.

• You sell part or all of your property to a home reversion provider at below-market value, usually between 20% and 60% of its true value
• The provider pays you a tax-free lump sum or regular payments
• You can live in the property rent-free until you die
• It is also possible to ring-fence a percentage of your property for later use, possibly for inheritance 
• When it is sold, the proceeds are split based on the percentage you own and the percentage the lender owns. So if the value of your property rises, so does the amount the lender gets
• The advantage is that they give you greater certainty over how much inheritance you can leave
• You may need to be least 60 or 65 before you can apply
• The percentage of the market value you will receive increases the older you are

We go into more detail about the different types of equity release loans — and help you understand which is best for you.

You can read how Ian and Gillian Knight took out a lifetime mortgage to stay in their home and help their son get on the property ladder.

What is a negative equity guarantee?

All equity release products come with a “no negative equity” guarantee. This means you will never owe more than your home is worth when it is sold.

It offers peace of mind if house prices drop and the value of your property falls below the amount you borrowed. Find out more about dealing with negative equity.

Is equity release a safe option?

Equity release is risky because the interest on the loan could roll up and potentially wipe out the entire value of your home.

While a 5% interest rate may not sound too bad, if you’re not paying any of it back then the interest quickly rolls up. In fact, the amount you owe roughly doubles every 14 years.

For example: if you take out a £100,000 lifetime mortgage just before you turn 56, that debt would roll up to £200,000 by the time you are 70.

However, equity release plans have a number of safety measures in place:

• You can continue to live in your home rent-free until you die or move into long-term care. This security is not available with retirement interest-only mortgages (RIOs). 
• A “no negative equity” guarantees the amount owed does not exceed the value of the property.
• You are obliged to hire a financial adviser (we recommend considering an independent one rather than one who is tied to a lender)
• The Equity Release Council requires an independent solicitor to ensure that the customer fully understands the nature of the mortgage they are applying for. They also have to check for any potential coercion (by a family member, for example) or lack of mental capacity.

With that said some borrowers have claimed they weren’t fully aware of the consequences of taking out an equity release loan, such as the snowball effect of interest rates.

It’s a good idea to consider the alternatives to equity release first.

Is equity release a good idea?

Equity release can be a good idea if you need the money and don’t have any alternatives.

For example, if your savings and income aren’t enough to fund your retirement and you don’t want to downsize then it could be worth considering.

It can also work well if you don’t mind reducing the size of any inheritance – perhaps because:

• You don’t have any beneficiaries
• Your children would rather receive money now
• They would rather you spent it and don’t need any inheritance money

Use a free equity release calculator

Use an equity release calculator, like the one below, to work out how much cash could be unlocked from your home.

The amount you could release depends on factors such as your age and the value of your property.

How to apply for equity release

The process of applying for equity release has several different stages. These will help in establishing whether it is appropriate and in choosing the type of product that suits your circumstances.

1. Get advice

The first step is to speak to an adviser who specialises in equity release. You are obliged to seek financial advice before taking out an equity release loan.

You can find advisers who are:

• Tied to a specific lender, meaning they can only recommend equity release plans from certain providers
• Brokers who compare products across the whole market

Regardless of which type of financial adviser you choose, they will talk through:

• Your situation, factoring in information on your age, health, lifestyle, finances and family
• What you are trying to achieve
• Whether you could raise the money elsewhere

The financial adviser should also be able to explain the different types of equity release.

If the adviser thinks that equity release is right for you, they will estimate how much cash you can release and suggest a specific product.

The amount you can borrow will be driven by:

• Your age
• The value of your property
• Sometimes the type of property. Some providers are willing to lend less on flats, for example, or don’t accept them at all 

You will get the chance to ask questions. And the adviser will follow up with a written recommendation, including an illustration of how your loan will mount up given that interest rates can be about 4% on equity release products.

2. Talk to your family

Anyone considering equity release is well-advised to talk to their family first. The debt can have a big impact on what’s left as inheritance for your children.

For example, your beneficiaries might even prefer to pay the interest on anything borrowed by equity release in order to stop the balance spiralling.

3. Submit the application

If you decide to go ahead, the next stage is to get your adviser to submit an application.

You will also need a solicitor with experience of equity release.

4. Get a property valuation

The equity release provider will review your application, carry out identification and credit checks, and arrange for a surveyor to come round and value your home.

You will need to pay for the valuation, unless the lender offers it for free.

If the valuation is different from expected, this may change how much you can borrow, and your adviser should double-check if a different plan is now suitable.

5. Confirm the loan offer

Next, the lender will issue your equity release offer and send a copy to your solicitor.

Your solicitor will review the offer with you and carry out the legal side of the transaction.

6. Get your money

Once the legal checks are done, including arranging for any existing mortgage to be cleared, your solicitor will set a completion date for the lender to transfer the money.

The fees for your solicitor and the adviser who arranged your equity release scheme will be taken from the proceeds or can be added to your loan.

How long does the equity release process take?

If the process runs smoothly, you could have your money within four to six weeks of applying. 

However, the process will take longer if, for example, you already have an outstanding mortgage to redeem. In that case it might then take an average of ten weeks according to Age Partnership.

How does equity release affect inheritance tax?

Releasing cash against the value of your home can be a way of giving wealth to family members free of inheritance tax.

However, you will have to live for at least seven years afterwards to escape the clutches of the taxman completely. We explain the seven-year rule in our guide on inheritance tax.

Equity release will reduce the value of the estate, so there may be a saving on inheritance tax when you die. Find out more about the inheritance tax thresholds.

However, financial advisers warn that a potential inheritance tax saving should not be the primary reason for taking out a lifetime mortgage.

Can I use equity release if I have bad credit?

You can usually get equity release even if you have a poor credit record. This is because the lender isn’t relying on you to pay the money back, but is instead relying on getting some money back from the value of your home.

But the equity release provider will likely require you to:

• Clear any existing mortgage (though some people take out equity release to clear their mortgage debt)
• Settle any county court judgments (CCJs), charging orders or individual voluntary arrangements beforehand. You may use the money from equity release to do so
• Settle any arrears on unsecured debts, such as credit cards or personal loan
• Be discharged from bankruptcy before using equity release

Find out more here for tips on managing debt.

Alternatives to equity release

Equity release might not be open to you or the best option for you. We have more on the alternatives to equity release here, but to summarise:

• Taking out a retirement interest-only mortgage
• Selling your home and downsizing
• Taking in a lodger
• Adjusting your regular spending
• Liquidating other investments or assets
• Looking into grants or local authority assistance if essential home improvements are required

If you’re a younger homeowner in pressing need of cash, it’s worth considering remortgaging. You may want to read our article remortgaging versus equity release.

But if your situation is particularly complicated then consider contacting a financial adviser.

FAQs about equity release

If you still have questions about equity release, we answer some frequently-asked questions below.

Will I still own my property?

Typically yes, you remain the owner of your property, albeit with a loan secured against it.

However, with home reversion plans, you sell some or all of the value of your home to the equity release provider. 

Can I sell my house if I have equity release?

Yes, but you will need to check with your equity release provider first. If your new home meets the criteria it sets out, you may be able to move and take your equity release plan with you.

However, you might need to repay some or all of the equity release if:

• The new property isn’t worth enough to provide security for your debt
• Or your new home isn’t acceptable to the lender

Can I lose my house with equity release?

With equity release, you have the right to live in your home until you die or move into permanent care. So your home can’t be taken away. 

The exception is with retirement interest-only mortgages (RIOs). This is an alternative to equity release where you commit to making interest-only payments on the mortgage every month.

With a RIO, if you miss payments, your property could be repossessed.

Will my children inherit my debt?

When you die after taking out equity release, typically most providers allow your children up to a year in which to sell the property and use the proceeds to clear the debt.

Any money left over will then be paid to your beneficiaries.

Under the “no negative equity guarantee”, you and your beneficiaries will never owe more than the property is worth when it is sold.