How does equity release differ from a regular mortgage?

A regular residential mortgage and an equity release product, such as a Lifetime Mortgage, are two fundamentally different ways of borrowing money secured against your home. While both involve using property as collateral, they differ significantly in terms of eligibility requirements, repayment structure, and the overall financial commitments involved. Understanding these distinctions is crucial for UK homeowners deciding which financial solution best meets their long-term needs.

The Fundamentals of a Regular Residential Mortgage

A regular (or traditional) residential mortgage is the standard way most people in the UK purchase a home. It is a large loan provided by a lender to help you buy property, which is then secured against that property. Over the term of the mortgage, you repay both the borrowed capital and the interest charged.

Key Features of a Regular Mortgage

• Repayment: Payments are mandatory, structured monthly instalments, typically spread over 20 to 35 years. These payments cover both the loan principal and the interest.
• Eligibility: Eligibility hinges primarily on the borrower’s verifiable income, affordability checks, and credit history. Lenders assess whether you can sustain the regular monthly payments.
• Age Limit: While there is no lower age limit (provided you are a legal adult), many lenders impose an upper age limit (often 70 to 85) by which the mortgage must be fully repaid.
• Debt Reduction: Provided you maintain payments, the amount of capital owed consistently decreases over time.
• LTV (Loan-to-Value): Loans are generally available for up to 90% or 95% of the property value, though higher LTVs usually require more rigorous checks and higher interest rates.

Affordability and Risk in Traditional Mortgages

Lenders are required by the Financial Conduct Authority (FCA) to perform strict affordability assessments to ensure you can manage the repayments, often stress-testing your finances against potential interest rate rises.

For lenders to determine your eligibility, they perform detailed checks. Part of this process involves looking closely at your credit file. Understanding your financial footprint is important when applying for any secured loan.

Get your free credit search here. It’s free for 30 days and costs £14.99 per month thereafter if you don’t cancel it. You can cancel at anytime. (Ad)

It is vital to understand the serious implications of failing to keep up with monthly repayments:

Your property may be at risk if repayments are not made. Consequences of default can include legal action by the lender, which could lead to increased interest rates, additional charges, and, ultimately, repossession of your home to recover the debt.

The Fundamentals of Equity Release

Equity release is a way for older homeowners (typically aged 55 and over) to access the tax-free wealth (equity) tied up in their home without having to move out. The most common form of equity release in the UK is the Lifetime Mortgage.

Key Features of a Lifetime Mortgage (Equity Release)

A Lifetime Mortgage involves borrowing a tax-free lump sum or receiving drawdown payments, secured against your property. Unlike a regular mortgage, the key characteristic is that the debt repayment is deferred.

• Repayment: The loan principal plus the accumulated interest is generally repaid only when the last surviving borrower dies or moves permanently into long-term care.
• Eligibility: Eligibility is based primarily on the age of the youngest borrower (usually 55 or older) and the value/condition of the property. Income or credit score is usually secondary, as there are typically no monthly repayments.
• Interest Mechanism: Interest is charged on the loan and any interest already accrued (compounding interest). If the borrower chooses not to make any voluntary repayments, the total debt grows significantly over the duration of the loan.
• Security: Products registered with the Equity Release Council (ERC) must include a “No Negative Equity Guarantee.” This means that when your property is sold, even if the sale price is less than the total debt owed, your estate will never owe more than the property’s sale price.

Types of Equity Release

While Lifetime Mortgages dominate the market, the other main form of equity release is a Home Reversion plan:

Home Reversion: You sell all or part of your home to a reversion provider in exchange for a tax-free lump sum, but you retain the right to live there rent-free until you die or move into care. When the property is eventually sold, the provider receives their agreed share of the sale proceeds.

Detailed Differences in Repayment and Debt Structure

The core distinction between the two products lies in when and how the debt is repaid. This difference dictates how the debt impacts your overall wealth over time.

Deferred Repayment vs. Amortisation

A regular mortgage operates on an amortisation schedule. This means every mandatory monthly payment contributes towards reducing the original loan amount (capital) and covering the interest charged. If you pay consistently, the debt shrinks predictably.

Equity release, by its nature, allows for deferred repayment. Since you typically make no mandatory monthly payments, the interest rolls up and is added to the total debt. This rolling-up process is key to understanding the cost.

For example, if you borrow £50,000 at 5% interest:

• Regular Mortgage: Your monthly payments would ensure the £50,000 capital is repaid alongside the interest over 25 years.
• Lifetime Mortgage (No Repayments): After 10 years, the interest compounded on £50,000 would significantly increase the total debt owed. After 20 years, the debt could easily double or more, depending on the rate. This rapid growth, known as compounding, is a significant financial consideration.

Flexibility in Repayments

While traditional equity release allowed no voluntary repayments, modern Lifetime Mortgages often provide flexibility:

• Many schemes now allow borrowers to make voluntary, penalty-free partial repayments towards the capital and/or interest, often up to 10% of the initial loan amount each year. This helps mitigate the impact of compounding interest.
• Interest-only Lifetime Mortgages allow the borrower to pay the monthly interest to keep the total debt owed level, but this reintroduces the monthly payment requirement seen in a regular mortgage.

Eligibility and Affordability Criteria

The assessment process for each product is fundamentally different because the lender is relying on different security measures.

Regular Mortgage Eligibility

Eligibility is income-centric. Lenders need assurance that you can afford the immediate, ongoing cost:

• Proof of stable employment or income (e.g., salaries, self-employment profits, guaranteed pensions).
• A detailed assessment of current debts, outgoings, and financial dependents.
• A satisfactory credit history demonstrating responsible management of debt.

Equity Release Eligibility

Eligibility is asset and age-centric. Since payments are deferred, immediate affordability is not the main concern:

• The minimum age requirement (usually 55).
• The property must be the borrower’s primary residence, located in the UK, and meet minimum valuation and structural criteria.
• There is less scrutiny on current income, making it a viable option for retired individuals on fixed or low incomes.

Impact on Existing Finances and Inheritance

Both borrowing methods impact your overall finances, but they do so at different points in your life cycle.

Immediate vs. Future Impact

A regular mortgage has a significant immediate impact on monthly disposable income, constraining lifestyle choices while the debt is being paid down. However, once paid off, the property is fully owned, increasing eventual wealth.

Equity release has minimal immediate impact on monthly cash flow (unless voluntary payments are made). However, because the debt grows over time, the equity remaining in the property for future inheritance is significantly reduced. This reduction is often the biggest risk associated with the product.

Means-Tested Benefits

Taking out a regular mortgage does not typically affect state benefits (as the money is immediately used to buy the home, not held as capital).

However, receiving a tax-free cash lump sum through equity release could affect your entitlement to certain means-tested state benefits (like Pension Credit or Universal Credit) if the released funds push your total savings or capital above the eligibility threshold. This is a critical point that must be discussed with a specialist adviser.

Regulatory Protection and Advice

Both mortgages and equity release are highly regulated in the UK, but the mandatory advice required differs.

The Role of Financial Advice

For a regular residential mortgage, seeking professional advice is highly recommended but not always legally mandatory, especially if dealing directly with a lender on an execution-only basis (though this is rare for complex mortgages).

For equity release, seeking advice from an FCA-regulated and Equity Release Council member adviser is legally mandatory. This ensures you understand the complex mechanism of compounding interest, the impact on benefits, and the reduction in inheritance. The adviser must explore alternative solutions before recommending equity release.

To ensure you seek protected advice, you should always check the Financial Services Register to verify the regulatory status of the firm or individual advising you. You can find more information about how the financial sector is protected via the government-backed MoneyHelper service.

Specific Equity Release Risks (Recap)

While the “No Negative Equity Guarantee” protects your estate from owing money beyond the property’s value, the following risks remain:

• Compounding Debt: The total loan amount grows rapidly if interest is rolled up, consuming a large portion of the property’s value.
• Early Repayment Charges (ERCs): If you decide to repay the loan early, move house and the new property is unsuitable collateral, or if the product does not allow portability, you could face substantial ERCs, which can be thousands of pounds.
• Impact on Benefits: The lump sum may disqualify you from receiving certain state benefits.

People also asked

At what age can I take out a Lifetime Mortgage?

You must typically be aged 55 or over to qualify for a Lifetime Mortgage in the UK. This minimum age is set by the majority of providers because the loan is designed to be repaid only upon the death or long-term care of the borrower.

Is equity release more expensive than a regular mortgage?

Yes, typically equity release becomes significantly more expensive overall than a regular mortgage because the interest is usually compounding over a much longer period (often 15–30 years) without the principal being reduced, leading to a much larger final debt.

Can I use equity release if I still have an outstanding regular mortgage?

Yes, you can. If you have an outstanding mortgage when you take out an equity release plan, the first condition of the equity release provider is that the funds released must be used to clear the existing regular mortgage balance immediately, ensuring the equity release product is the sole debt secured against the property.

Do I still own my home with a Lifetime Mortgage?

Yes, with a Lifetime Mortgage, you retain full ownership of your home (100%), and the equity release loan is registered as a charge against the property, similar to a traditional mortgage; this differs from a Home Reversion plan where you sell a share of the ownership.

What is the ‘No Negative Equity Guarantee’?

This guarantee, mandated by the Equity Release Council for all approved products, ensures that the total debt owed will never exceed the value of your property when it is eventually sold, protecting your beneficiaries from inheriting financial liabilities.

Conclusion

Choosing between an equity release product and a regular mortgage depends entirely on your age, financial circumstances, and goals. A regular mortgage is suited for younger individuals who have strong income and want to fully own their property by a certain date, but it demands strict monthly affordability.

Equity release, by contrast, is a tool for older, asset-rich but potentially income-poor homeowners. It offers financial flexibility in retirement without immediate repayment pressures, but this comes at the cost of compounding interest and a substantial reduction in the remaining equity available for inheritance.

Given the long-term, high-cost nature of equity release and the significant impact it has on the value of your estate, professional, specialist financial advice is indispensable before committing to any equity release scheme.