Around 1 in 5 homeowners use equity release to pay off their interest only mortgage. For those who are eligible, it can bridge the gap left when an endowment policy, savings or investment is not worth enough to fully repay the lender.
Until the 2008 financial crash, it was relatively easy and affordable to get an interest only mortgage. You only had to demonstrate you could pay the interest each month, because the capital did not need to be paid until the end of the term. Instead, you had to have a financial plan in place to repay the capital at the end of your mortgage term.
This is why the Financial Conduct Authority expects there to be 40,000 homeowners aged 65 and over, coming to the end of an interest only mortgage ever year until 2032, many of whom may not have enough to meet that all important final repayment.
So if you’re coming to the end of your interest only mortgage term and are faced with a shortfall, equity release could be one option.
How can you pay off an interest only mortgage?
There are several ways to pay off an interest only mortgage.
The Financial Conduct Authority has produced this guide to repaying interest only mortgages, you may find helpful.
How to pay off an interest only mortgage using equity release
Equity release gives you access to money tied up in the value of your home - money that could be put towards paying off your mortgage. There are no monthly repayments, as the loan (plus interest) is repaid once you die or move into care, usually when your property is sold.
Whether you are eligible for equity release depends on your age and the value of your property. If you have an existing mortgage, you must pay this off first and can use the equity you have released to do so. Once your mortgage is paid off any remaining funds are yours to use how you wish.
Using equity release could be a good idea to pay off an interest only mortgage, however it will depend on your situation. Equity release will impact your family’s inheritance and could affect any benefits you receive, so it’s important to consider all your mortgage repayment options and seek professional advice, before making a decision.
Other ways to pay off an interest only mortgage
You could extend your mortgage, allowing yourself more time to save and repay the loan. However, this will depend on your income and age as most lenders will not extend beyond a certain age.
- Switch to a repayment mortgage
By switching to a repayment mortgage, you will repay the interest and some of the capital on a monthly basis. This means there will be nothing left to pay at the end of your mortgage term however your monthly payments will be higher.
- Make larger monthly repayments
If you can afford it, you could make larger monthly repayments, on either a regular or an ad hoc basis. This will start to reduce your capital, lessening the amount you owe at the end of the mortgage term. Your mortgage lender can advise you the overpayment terms they offer.
- Switch to a lower interest rate
Switching to a lower interest rate, either with the same lender or a new one, will reduce your monthly payments. You could then use the money you save to overpay your interest only mortgage, to reduce the capital.
Your ability to change to a new mortgage will depend on your age and financial status.
- Change to a retirement interest only mortgage
Just like a standard interest only mortgage, a retirement only mortgage only requires you to make monthly interest repayments. The main difference is that there’s no set date to repay the capital by. Instead, your monthly repayments continue for the rest of your life or until you move permanently into care. The property is then sold, and the capital repaid.
As retirement interest only mortgages are designed for retirees, there is usually a minimum age threshold of at least 55 – the same as for an equity release lifetime mortgage. Also, as this type of mortgage is relatively new not all lenders offer them, however an independent financial adviser will advise you on the best course of action.
Downsizing could help repay your interest only mortgage. However, this depends on the value of your current property value and whether it generates enough money to repay the capital on top of funding your new home. You could move to a cheaper area, but if this might leave you feeling isolated, equity release might be a better option, so you can stay in your own home.
Seek professional advice
It’s important to seek professional advice before deciding on the best solution for you.
To find out whether using equity release to pay off your mortgage may make sense for you, speak to a qualified equity release independent financial adviser or independent broker, such as Age Partnership.
They can compare schemes across the whole equity release market and not just individual companies, to give you a much broader view of your options.
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