A lifetime mortgage is a mortgage that only ends when you pass away or enter long-term care. In this guide, we go through the 3 types of lifetime products - equity release, RIO (retirement interest-only) and home reversion schemes – how they work, the benefits and pitfalls and more.


What Is a Lifetime Mortgage?

Lifetime mortgages are mortgages that aren’t repaid until you die or enter long-term care, with no prospects of returning to the residence. They’re suitable for people over 55 who want to borrow or obtain funds but are either approaching retirement or are already retired – and therefore might not have enough income for a normal repayment mortgage.

Lifetime mortgage providers sometimes call their products “later life lending” since they’re only available to pensioners and people over 55.

There are 3 different lifetime products:

  • Equity release a mortgage that allows you to borrow a percentage of the value of a property you already own and have equity in
  • RIO (retirement interest-only) an interest-only mortgage with no set term that you repay when you die or enter long term care
  • Home reversion where you sell all or part of your property but retain the right to live in it rent free. The investor that buys from you makes their money back when you die or enter long term care and the property is sold


Releasing Equity in Your House

Before we explain how to release equity from your home, it would make sense to fully explain what home equity is and how you obtain it in the first place.

About Home Equity

Your home equity is the value left over after all charges – i.e. your mortgage, including any second charge – are deducted from your home’s full market value.

You hold a certain amount of equity in any property you own.

Example

  • You take out a mortgage with a £50,000 deposit to buy a property worth £200,000
  • You have a £150,000 mortgage on the property
  • The equity you have in your property is: £200,000 - £150,000 = £50,000
  • You own the whole property but the lender’s interest is noted with the title deeds at Land Registry
  • Your equity in the property increases as you make monthly payments and/or the property rises in value – it’s worth noting your equity could decrease if the value of the property falls
  • Alternatively, if you buy a home outright with cash - e.g. for £200,000 - and there’s no mortgage to pay on it, you simply have £200,000 of equity in the property

It can be a little confusing, so just remember that you own the whole property as your name is the one on the title deeds. The lender doesn’t own any portion of the property; they have a claim to a certain amount of the equity equivalent to your outstanding mortgage debt and any unpaid interest.

The lender’s interest in the property is noted with the title deeds to ensure they’ll receive the amount they’re owed when you sell the property or remortgage, or if you fail to keep up your payments and they repossess the property.

How to Release Equity from Your Property

Equity release is where you extract money from a property you already own, by borrowing a percentage of the value of that property from a lender. The maximum amount you can borrow depends on the value of the property and your age - the younger of 2 people if you’re applying as a couple - and may be higher if your life expectancy is reduced because of a health condition. The older you are, the higher the percentage you can borrow.

The amount borrowed is secured against your home as with any other mortgage. Equity release companies charge interest on the amount you borrow, usually at a fixed rate. Unlike a standard mortgage, there’s normally no introductory period as the rate is usually fixed for life.

See our guide on types of mortgages for more information on different interest rates and how they work.

The equity release provider gets their money back when the property is sold after you pass away or enter long term care, unless you choose to repay it before then.

Equity release mortgages are different from other mortgages in the following ways:

  • You don’t have to make payments on the outstanding debt each month, but in many cases you can repay up to 10% per year if you want to
  • The interest “rolls up” and compounds each month unless you make an optional payment, therefore the interest charge increases each month as the debt grows
  • They’re currently the only type of mortgage offering a fixed rate for longer than 15 years – fixed rate equity release mortgages stay at the same rate until the property’s sold or the mortgage is repaid by other means
  • There’s no affordability assessment because no payments are required, which is helpful for retired homeowners on a low income or with income that would be difficult to prove to a lender’s satisfaction 
  • There’s a no negative equity guarantee, which means neither you nor your beneficiaries will ever have to repay more than the amount the property is sold for

Who’s Eligible?

You’re only eligible for equity release if you:

  • Are over 55
  • Own a main residence or buy-to-let property in the UK
  • Own a property worth at least £70,000

You can still apply for equity release even if you already have a mortgage on your home, but the existing mortgage would have to be repaid. It’s best to speak to a broker to find out whether you’re eligible

It’s also worth noting that there are ways to release equity from your property if you’re under 55 - you’re just not eligible for this type of lifetime mortgage. A normal remortgage for an amount that’s larger than the current mortgage on the property and a second charge can both release equity as they’re loans you take out on a property you already own. They can also be relatively short-term methods of releasing equity as, unlike a lifetime mortgage, they have a set term within which they need to be paid back.

Types of Equity Release Mortgages and Features

Interest Roll-Up

All equity release mortgages are offered on an interest roll-up basis, which means that the interest charged on the loan isn’t paid monthly but added to the outstanding loan amount. The interest then compounds; it’s charged on this new, bigger loan amount each month. The loan amount increases at an almost exponential rate. This can sound quite intimidating, but the no negative equity guarantee means you’ll never pay more than your property is worth.

In fact, the no negative equity guarantee has rarely been needed. Lenders expect there to be some equity left over for inheritance after the sale of the property. They’d actually lose money if the loan amount increased to more than the property was worth when it was sold, so they avoid lending you too much in the first place by limiting the percentage you can borrow. They take account of your age, the amount of interest which will be added to the mortgage during the rest of your expected life and the increase they expect in the value of the property over time.

Example

  • You own a property worth £600,000
  • The lender lends you £200,000, based on your age and the value of your property
  • The interest rate on your mortgage is 3.5%
  • The amount of the mortgage would increase as follows:

Month

Year

Interest Rate

Mortgage Balance at End of Year

New Interest Added to Loan

Month 0

0

3.5%

 £200,000

£0

Month 12

1

3.5%

 £206,511

£6,511

Month 24

2

3.5%

 £213,856

£7,345

Month 36

3

3.5%

 £221,462

£7,606

Month 48

4

3.5%

 £229,339

£7,877

Month 60

5

3.5%

 £237,496

£8,157

Month 120

10

3.5%

 £282,844

£45,348

Month 180

15

3.5%

 £336,851

£54,007

Month 240

20

3.5%

 £401,170

£64,319

Month 300

25

3.5%

 £477,771

£76,601

Month 360

30

3.5%

 £568,998

£91,227

At a rate of 3.5% the amount of the mortgage would double every 20 years. It would increase even more quickly at higher rates.

It’s important to remember that although the amount you’ll owe will increase steadily, so may the value of your property. Therefore, it’s unlikely they’ll be no equity left over for inheritance.

Early Repayments

Most equity release mortgage providers allow you to make payments of up to 10% per year with no ERC (early repayment charge). Any payments you choose to make will reduce the outstanding loan amount and consequently the interest that’ll be charged. However, there can be hefty ERCs if you repay more than 10% per year.

To ensure you’re not surprised by these charges, speak to your broker about exactly what you can and can’t repay.

Interest-Only

A few lenders offer the option of an “interest-only equity release mortgage” which requires you pay some or all of the interest, at least for an initial period. This reduces – and can halt – the interest from rolling-up and hence the loan from increasing. But, as monthly payments are required, the borrower must be able to prove affordability to the lender.

Ring-Fencing Equity for Inheritance

You can ring-fence some of the value of your property as an inheritance for your family. This means the lender can’t touch it, even if the loan amount exceeds the remaining equity value. However, to account for this portion, the lender would reduce the total amount you could borrow and/or increase the interest rate.

Drawdown Mortgage

With a drawdown mortgage, the lender calculates the total amount of cash they could let you borrow, but you don’t receive it all in one go. Instead, you’re given an initial, smaller lump sum with the option to borrow more via a drawdown facility in the future.

Interest is only ever charged on the amount you’ve received, not the total amount you could borrow. As a result, less interest is charged over time. The loan amount doesn’t increase as quickly so you end up owing less by the time the property’s sold, leaving more for inheritance. The interest rate on each drawdown will normally be set at the time of the drawdown.

Income Product

A variation of the drawdown mortgage that some people find more convenient is what’s referred to as an “income product”. When you choose this option, you have a regular drawdown - e.g. once a year - of a set amount. The initial maximum lump sum available to you will be smaller than if you choose one of the other options.

By avoiding borrowing a larger initial lump sum, those who may be entitled to social security benefits will be able to keep their savings balance below the relevant threshold and, as interest is only charged on the outstanding loan amount, less interest will be charged than if a larger amount was taken at the outset.

What’s more, the amount of the regular payment is classified as capital – not income so it’s not taxed, making it a useful way of boosting retirement income.


Equity Release Mortgage Interest Rates

Equity release mortgage interest rates are slightly higher than typical residential mortgages. Current fixed rates are generally between 3.5% and 5% - with higher rates for buy-to-lets. Because most equity release interest rates are fixed for life, it’s possible - unlike with a standard mortgage - to calculate what the loan balance will be at any time, subject to any optional repayments made.  

A few lenders sometimes offer a variable rate equity release mortgage, where the rate will typically rise and fall in line with the Bank of England’s base rate. However, these mortgages don’t have the same protections that come with fixed rates and the main reason to choose a variable rate is to avoid ERCs.


Benefits and Pitfalls of Equity Release

Benefits

  • The interest rate is fixed for life – this is a particular advantage with long term interest rates currently at their lowest ever
  • It’s the only type of mortgage where the interest rates are fixed for the full term rather than 2, 5 or 10 years
  • You don’t have to prove your income as you don’t have to make any payments
  • There’s a no negative equity guarantee, which means you won’t ever owe more than your property is worth
  • You can work out how much the loan amount will increase by at any time
  • You remain the owner of your property
  • There are lots of options, like drawdown facilities, interest payments, etc.
  • You can ring-fence a certain amount for inheritance

Pitfalls

  • It could affect your tax position and entitlement to certain benefits
  • There are ERCs, usually for the first 5 – 15 years if you pay back more than 10% per year. Some lenders charge on a percentage basis and others by what is called mark to market. The latter means that the size of the ERC depends on how long term interest rates have changed since your mortgage started. Basically, if interest rates have risen there’ll be either no ERC or a small one but if rates have fallen - the further they’ve fallen the higher the ERC
  • Interest rates are higher than on standard mortgages but not directly comparable
  • The amount you owe could increase at an exponential rate

What Is a RIO (Retirement Interest-Only) Mortgage?

As the name indicates, RIO (retirement interest-only) mortgages are interest-only lifetime mortgages. You can take a RIO mortgage out to purchase a new property or remortgage your current one. The main difference between them and normal interest-only products is that you don’t repay a RIO mortgage until the property is sold after you die or enter long-term care – i.e. there’s no set mortgage term. This means you don’t need a repayment vehicle like you would with a normal interest-only mortgage.

You make monthly interest payments which stop the interest from rolling up and your debt from increasing. This means that, you’ll repay the same amount you took out in the first place when the property is sold.

The fact that you make monthly interest payments with a RIO mortgage is what makes it different from the other lifetime mortgage options in this guide. It also means your affordability is assessed for a RIO mortgage to ensure you can meet the monthly interest payments. Equity release mortgages and home reversion schemes don’t have an affordability assessment as you don’t need make any monthly payments – unless you opt for an interest-only equity release mortgage.

Example

  • You borrow £75,000 on an interest-only basis at 3.99% per year
  • The monthly payments are £250/m
  • The size of the loan doesn’t increase at all over the term of the mortgage

Who’s Eligible?

You’re only eligible for a RIO mortgage if you:

  • Are over 55
  • Have sufficient income to meet the affordability repayments

Benefits and Pitfalls of RIO Mortgages

Benefits

  • They can be more affordable than a repayment mortgage
  • There’s no need to provide evidence that you have an acceptable repayment vehicle like you would with a normal interest-only mortgage as the property itself is the repayment vehicle
  • Monthly interest payments stop the debt from increasing
  • You can take one out to buy a new property
  • You don’t need a deposit if you’re remortgaging an existing property

Pitfalls

  • You must make and maintain the monthly interest payments
  • You need to prove a certain amount of income and pass an affordability assessment
  • You’ll have to put down a deposit if you’re purchasing a new property

What Is Home Reversion?

A home reversion scheme isn’t technically a mortgage, but we’ve included it in our lifetime mortgage guide because it’s a financial commitment you make for the rest of your life.

You sell some or all of the equity in your property to an investor - e.g. 30%, 55%, 100%, etc. The investor owns that proportion of the equity in your home until it’s sold and they get their money back.

You receive a lump sum for the percentage you sell to the investor. The amount you receive is calculated at a large discount to the current value of the property. This discount reduces as you get older, because there’ll likely to be less time before the investor can realise their asset.

The investor’s buying a percentage of equity rather than giving you a loan, so they’re entitled to that percentage of the sale price and may expect that the property will increase in value by the time it’s sold.

What’s more, as you’re selling equity in the property, the investor becomes the owner or a joint owner, depending on whether you sell 100% of the equity or just a portion. Even if they become the sole owner of the property, you have the right to live in it until you die or enter long term care with no prospects of returning to the residence.

Example

  • You own a property worth £100,000
  • There’s no mortgage to pay on this property so you own 100% of the equity
  • You then sell 30% of the equity in the property – which is worth £30,000 at market value - to an investor for £14,000
  • You retain 70% of the equity in the property
  • You make no payments on this amount until the property’s sold
  • The property’s sold 10 years later
  • The value of the property increases from £100,000 to £122,000 and is sold for this amount
  • 70% of £122,000 is £85,400
    • You or your executor receives £85,400
  • 30% of £122,000 is £36,600
    • The investor receives £36,600

One of the main drawbacks of home reversion is that the money you’ll receive for a share of the equity in your property will likely be considerably under market value. They’re also very inflexible and extremely rare nowadays, with only a handful of companies providing them.

Who’s Eligible?

You’re eligible for a home reversion scheme if you:

  • Are over 65
  • Own a main residence in the UK

You can sometimes still use a home reversion scheme when there’s a mortgage on your property, but the outstanding mortgage will have to be repaid from the proceeds of the reversion plan.


Benefits and Pitfalls of Home Reversion

Benefits

  • You don’t have to prove your income as you don’t have to make any payments
  • No interest is charged
  • You know exactly what percentage of the sale proceeds you’ll receive

Pitfalls

  • It could affect your tax position and entitlement to certain benefits
  • The amount you’ll receive will be greatly under market value
  • You may have to release more equity in your property to get the value you need
  • The lender will take partial/sole ownership
  • Even if there’s a dual ownership arrangement, you’ll normally still be responsible for 100% of costs – e.g. repairs and insurance
  • They are relatively inflexible. The percentage of the value you’d receive assumes you’ll stay in the property until you die or go into care, so if your circumstances change and you want to move house - perhaps to live with a family member or new partner - you wouldn’t receive a rebate

Not Sure? We Can Help

We can talk to you about the pros and cons of the different lifetime mortgage options, helping you decide what to do next.

Call us on 0344 346 3672 or send an enquiry for more information.

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