Is using equity release to pay off an interest-only mortgage a good option?

The 1990s saw a boom in interest-only mortgages, but many homeowners will now be coming to the end of their mortgage term still with the full or a large amount of the capital needing to be paid off. This can be a stressful time for homeowners, who risk losing their home if they are unable to repay the mortgage when the term ends and as a result, some have looked towards equity release as a way of repaying their mortgage.

While equity release can be a good way of releasing money built up in a home’s equity, it does have a long-term financial impact and, as such, speaking to an independent financial adviser is essential before committing to equity release. For those who have an interest-only mortgage and are thinking about using equity release to pay off the outstanding mortgage, we’ve looked at whether this is possible and the alternatives available.

Equity release can be used to repay an interest-only mortgage, but those considering this option must ensure that their home has enough equity that can be used to repay the mortgage. Fortunately, for many homeowners who took out an interest-only mortgage in the 1990s, the previous two decades have seen a significant rise in house prices, which means that many should have enough equity built up to repay the mortgage. In addition to this, as equity release does not require that the loan is paid back until the borrower moves into a permanent care home or dies, homeowners do not have to worry about monthly repayments.

Those considering using equity release to repay an interest-only mortgage should be aware that many equity release providers have lower valuations than estate agents’ valuations. Also depending on the type of equity release that is taken out, a low loan-to-value (LTV) may be the only option offered. Speaking to an equity release broker will help homeowners to understand which equity release provider may be best suited to their individual circumstances and potentially how much money they could expect to release.

A big drawback to taking out equity release as a lifetime mortgage is that interest is added to the amount borrowed, which means that when the equity release needs to be repaid, the cost of the repayment not only factors in the initial amount borrowed but also the interest accumulated. As a result of this, equity release can result in the borrower leaving behind very little inheritance from their property when they die.

When taking out an interest-only mortgage, the borrower will have ideally had a plan in place to repay the mortgage when the term came to an end. For example, if the homeowner had paid into investments over the years, the money could be used to repay the mortgage.

For those who have not managed to put enough aside to repay the mortgage, another option is to choose a retirement interest-only mortgage. Unlike an equity release plan, a retirement interest-only mortgage will not pay off the mortgage but will enable homeowners to remain in their home and continue making interest-only repayments on their mortgage. The loan is repaid when the homeowner dies of moves into permanent residential care and the house is sold.

Another option for homeowners happy to move and who have seen the value of their home increase significantly is to sell their home and downsize. This option is only viable if the value of the home has increased by a significant amount, which will then enable them to repay their outstanding mortgage and buy somewhere new.