Home Equity Release

If you're interested in putting your home to work for you, then you might want to consider an equity release strategy.  This type of arrangement allows you to use the money you have invested in your home to provide a steady source of income.

In this publication, we're going to explain one of the latest ways homeowners can leverage the money invested in their homes to provide a future income stream.  As part of that explanation, we're going to review the types of equity release programs offered today.  We'll also talk about the pros and cons of pulling the equity out of your home.

Equity Release

While the term "equity release" used in this article is focused on releasing the value of a home back to its owner, the concept can be applied to any asset that has marketable value.  An equity release approach is similar to a reverse mortgage, although the cost of the arrangement is typically less than a reverse mortgage.  And unlike a home equity loan, the homeowner isn't obligated to repay a portion of the loan each month.

Equity Release Products

While the number of equity release products on the marketplace is only limited by the imagination of marketers, in general, there are three different equity release products in use today:

• Home Reversion Plans
• Lifetime Mortgages
• Shared Appreciation Arrangements

Under all these programs, the participant continues to live in the home until it's sold, which is one of the important advantages of equity release.

Home Reversion Plans

The first product we're going to discuss is known as a home reversion plan.  This type of equity release plan allows the homeowner to release the exact portion of the home's value necessary to satisfy a need for income.  The homeowner, as well as their partner, is permitted to stay in the house until it is sold.  The exact amount paid in this plan is a product of the home's value, as well as the age of the participants.

When the home is eventually sold, a percentage of the sale's proceeds are paid back to the reversion company.  This feature makes this type of plan inappropriate for individuals that want to leave the entire property to their heirs as part of an inheritance estate.

Lifetime Mortgages

The next product we're going to discuss is called a Lifetime Mortgage.  This equity release plan allows the homeowner to take out a loan that is secured by the home.  With a lifetime mortgage, the loan itself, as well as the interest on the loan, is paid back when the home is sold; usually at the homeowners' death, or when they move to a long-term care facility.

Since the principal and interest on the loan are not paid back over time, the accrued interest is added back to the loan, and the outstanding balance grows over time.  When the home is eventually sold, the proceeds from the sale are used to pay off the outstanding balance on the loan.

Shared Appreciation Arrangements

This final equity release product is called a shard appreciation arrangement.  This plan allows the homeowner to sell a percentage of the home to a lender.  By doing so, the homeowner agrees to give up a share of the home's appreciation in value.  In exchange, the homeowner receives a lump sum payment from the lender.

For example, the lender might be willing to pay the homeowner 10% to 15% of the home's value in exchange for half (50%) of the appreciation in the home's value over time.  If two people live in the home, then the payment may be as high as 20% to 30% of the property's value; however, the entire appreciation (100%) in the home's value would be paid to the lender when the home is sold.

Pros and Cons of Equity Release

Equity release programs appear to offer retired individuals an ideal way of accessing money they have invested in their homes.  That's an excellent way of allowing some financially-strapped retirees to enjoy their retirement years.  But as we'll soon explain, there are some disadvantages associated with these programs too.

Advantages of Equity Release

• Access to Money - the single biggest asset many retirees own is their home.  Equity release allows these individuals to extract the equity in their homes and thereby provides a source of income to the household.
• Ownership Rights - although these programs essentially split the ownership of the home with the lender, there is no need for anyone to move out of the home.  There is no need to downsize a home to release the equity in the home, which is a common approach taken by many retirees.
• Costs - the upfront costs associated with equity release programs are typically lower than alternatives such as obtaining a home equity loan or refinancing a mortgage.
• Repayment - there is no need to repay the money received via these programs back to creditors each month, the money owed is paid when the home is eventually sold.

 Disadvantages of Equity Release

• Inheritance of Home - equity release programs usually require the home to be sold when the applicant passes away or when the owner moves to another community.  This means the home cannot be inherited by a family member.
• Reduction in Inheritance - equity release is really a loan of money, and when the home is sold, the lender must be repaid.  Therefore, there is less money to be inherited or donated to charitable organizations when the owner passes away.
• Future Price Appreciation - since ownership of the home is split with the lender, they're entitled to their share of the future price appreciation in the home.  This may be a very good deal for the lender if the transaction involves a home in a depressed housing market that is on the upswing.

This last point is an important one to understand.  When an economic recession hits the stock market, home prices usually decline too.  Retirees looking for alternative sources of income during these recessions might consider equity release to help close a financial gap.  When home prices eventually rebound (as they usually do), the benefit of this potentially significant rise in home value is shared with the lender.

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