Home equity release arrangements, such as “reverse mortgages,” can be useful tools for retirement planning. It is important, though, that a homeowner entering into such an arrangement has a good understanding of its disadvantages as well as its advantages.
How does a reverse mortgage work?
A reverse mortgage, which is sometimes also known as a “lifetime mortgage,” is simply a loan that is secured by the borrower’s primary residence and that is repaid when the borrower dies.
A borrower continues to own the property during his/her lifetime, but when he/she dies it will be sold, with the proceeds used to repay the loan. To the extent that the sale proceeds exceed the amount required to repay the loan, the surplus will form part of the borrower’s estate.
The proceeds of the reverse mortgage loan can be paid out to the borrower in installments, or in a lump sum – which the borrower can invest or use to buy an annuity that pays out installments to the borrower.
Although a reverse mortgage is usually available without the borrower having to prove that he has an income, there is ordinarily a minimum age requirement (for example, that the borrower must be at least 62).
Some points to consider
Unlike a traditional mortgage, where you borrow money and as you repay it you accumulate equity in the mortgaged property, you do not repay a reverse mortgage during your lifetime. So in effect, the borrower is swapping equity in his property for a lump sum of cash or a stream of cash payments.
A borrower who is thinking about taking out a reverse mortgage should consider estate planning issues. For instance, if you had intended to leave your house to someone (a cohabitee or a relative) when you die, then a reverse mortgage will probably mean that you have to change your plans. In addition, a married couple should carefully consider the ramifications of a reverse mortgage. For example, will they be joint borrowers, or will one spouse be exposed to the risk that he or she will lose the house when the other spouse dies?
You should also bear in mind that a reverse mortgage might make it more difficult for you to relocate, since you will need to pay off the loan when you sell your house. In those circumstances, you may find that the remaining equity is not sufficient to finance the purchase of another property.
Home reversion plans
A home reversion plan is similar to a reverse mortgage in that it enables a retired person to swap home equity for cash or income. The way that a home reversion plan works is, however, very different to a reverse mortgage.
With a home reversion plan, the homeowner actually sells the house in exchange for: (i) a sum or money – which might be paid out in instalments or in a lump sum that is invested or used to purchase an annuity; together with (ii) the right to continue to live in the house for the rest of the homeowner’s life.
Since a home reversion plan involves the outright sale of your home, it is a major step – and you should get independent professional advice before taking it.
Avoiding scams or mis-selling
Many pensioners and retired people will have spent years accumulating equity in their homes. Before agreeing to a scheme to give up all or part of that equity, you should be thoroughly familiar with the details of the transaction, and have a good understanding of its advantages and disadvantages.
A solicitor or other independent advisor can help you ensure that the scheme you’re thinking about is right for you. She can also help you to make any adjustments to your will or other estate planning that may be required as a consequence of the equity release scheme.
Finding a solicitor who can help you with a reverse mortgage
You may already have used a solicitor for estate planning or other matters. If not, there are a number of ways you can find a solicitor in your area who will have the skills and experience needed to assist you in planning and carrying out a home equity release arrangement. Some possible ways of finding the right solicitor are doing some online research, checking with the Law Society, or using a free referral service like Contact Law.
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