There are over 600,000 interest-only homeowner mortgages in the UK and many people explore different ways to repay them.
You may be considering equity release if you are a homeowner aged 55 and over. But can equity release be used to repay an interest-only mortgage?
You can repay an interest-only mortgage with an equity release plan. Moreover, it is a requirement to repay any outstanding mortgages as part of any equity release. Lifetime mortgages (the most popular form of equity release) allow you to make optional repayments of interest charges. However, as monthly repayments are not required, your home is not at risk of repossession if you do not make monthly payments.
In this guide, you will learn:
The regulation, funding, and terms for equity release plans are not identical to interest-only mortgages. But they can be used in a very similar way.
You can effectively achieve an interest-only mortgage on your property with a lifetime mortgage (the most popular form of equity release).
You may find that a lifetime mortgage to be even better than a traditional interest-only mortgage!
Let's see why.
Interest-only mortgage
With an interest-only mortgage, you need to evidence your affordability of the monthly interest payments. The maximum amount you may likely be able to borrow will be around 4.5 times your annual income. The mortgage will last for a set term with the interest rate being fixed for only a few years at a time.
During the mortgage term, your monthly payments will only be covering the loan interest charged, and not any of the original capital borrowed. You will pay less per month than a repayment mortgage; however, at the end of the term, you still owe the original amount that you borrowed to the lender.
Once you are at the end of your interest-only mortgage term, the capital lump sum will require repaying.
Lifetime mortgage
Lifetime mortgages differ from an interest-only mortgage in that you don't need to prove affordability. The maximum amount you can borrow is based on your age and property value. Lifetime mortgages are available to applicants aged 55 and over. If it is a joint plan, the age of the youngest borrower will determine the maximum amount available.
Another way that equity release differs from an interest-only mortgage is that there is no fixed term. The capital will only need repaying once you move into long term care or pass away.
You will not have to consider affordability with an equity release lifetime mortgage, as you are not required to make monthly payments.
Lifetime mortgages afford you the choice to make repayments, and where you can service the interest charged, effectively creating an interest-only mortgage.
Option 1 - Voluntary Payment Lifetime Mortgage
Voluntary Payment Lifetime Mortgages allow you to make payments if you want, but no payments are mandatory.
If you make no monthly payments and the interest rolls-up in the background. The interest is added to the original loan, and the total is repaid from your estate once you pass away or move into long term care.
However, you also have the option to make voluntary ad-hoc payments as and when you wish without incurring any penalty charges (within pre-agreed limits).
Typically you will be allowed up to 10% of the initial loan every 12 months, without incurring any early repayment charges (ERC's). However, some plans allow 12%, and another up to 40% repayment without any additional fees.
Each lender will have their rules regarding the minimum payment you can make for each ad-hoc payment, and these vary from £50 to £500 per payment. Some plans will also state that a maximum of 6 payments per year and some 12 payments per year.
As you can see, there are differences, so it is essential you discuss your plans to make repayments with your equity release advisor.
Option 2 - Interest-Serviced Lifetime Mortgage
Interest-serviced Lifetime Mortgages share a big similarity to an interest-only mortgage whereby you pay the monthly interest. A big difference is that you can choose the monthly amount you pay each month. So it may be that you are paying all of the interest or only part.
If you pay all of the interest, the original capital owed stays level. At the end of the plan, your estate will only have to pay off the original equity release loan that you took out.
If you choose to pay a lower amount each month, then the remaining interest will be added to your loan and 'roll-up' to be paid when the plan comes to an end. Making any payments towards your plan will reduce the total amount owed at the end.
There are even plans which offer you discounts to the interest rate if you are servicing part/all of the interest each month.
Another big difference with a lifetime mortgage compared to a standard interest-only mortgage is that your home is not at risk of repossession if you do not make monthly payments.
If you come to a point where you can no longer afford the monthly interest payments, you can stop paying them without any further permission. The interest will then 'roll-up' and be added to your loan.
Our interest-only mortgage vs lifetime mortgage grid below provides you with a quick view of the main differences:
|
Interest-Only Mortgage |
Lifetime Mortgage |
| Term |
Specified length. |
No minimum length. No need to repay before death/care home. |
| Affordability |
Must prove affordability of the monthly interest payments. If term extends beyond retirement then must prove retirement income too. |
Not affordability assessed as all repayments of interest are voluntary. |
| Maximum loan amounts |
Based on what you can afford. Usually, around 4.5 times your income. |
A percentage of your property value, dependant on your age. The older you are, the higher the amount you can release. |
| Repayment method |
Some lenders will allow the sale of your home. |
Lenders expect to be repaid after you have permanently vacated your home (either through death or moving into a care home). But no formal agreement on how you are repaying needs to be made. |
| Monthly payments |
Mandatory. |
Voluntary. |
| Risk of repossession |
Yes, if you do not make your monthly payments. |
No, because repayments are only optional. |
Let's say that you have an interest-only mortgage that you know is coming to the end of its term in the next 12 months. You have no savings plan with which to pay it off, and you don't want to have to sell your home. So how do you make the repayment?
Equity release can be used to pay off your interest-only mortgage if you are 55 or over and there is no upper age limit. The percentage you will be able to release from your home starts at around 29.6% at age 55, increasing with age to a maximum of 58.4%. Lenders offer a variety of plans with different age and loan qualifications, and our advisers can help you find the most suitable plan for you.
If you don't want to carry on making monthly payments, then you don't need to. However, you may wish to choose to make ad-hoc payments, in case you have funds in the future that you wish to use towards making repayments.
Once you have discussed your options with an adviser and have an equity release application in process, payment of your mortgage will be taken care of for you. You will continue to make your monthly interest payments to your interest-only mortgage during the equity release application process, but once your application completes, the lender's solicitors will repay your interest-only mortgage. From that time onwards, you will have no further interest payments to make to your existing mortgage lender.
Of course, if you are still in the position where you are used to making monthly payments, and would like to continue to do so while you are able, then an interest-serviced equity release plan, as discussed previously, maybe the most suitable option for you.
Standard residential interest-only mortgages are also available later in life, but you will be required to prove affordability.
There is no regulatory maximum age for applying for a mortgage. However, most lenders will have age limits:
- When you take out the mortgage: Usually a maximum age of 65 to 80
- When the mortgage term ends: Usually a maximum age of 70 to 85
This means that even if you are below the maximum age for a mortgage, its term could be limited by how old you are.
For example, if you are 60 and want a mortgage that must be paid off before you reach 70, then its term could be no more than ten years. You will also be required to provide a solution to pay off the interest-only mortgage at the end of its term, be that savings, pension or other forms of investment.
For a joint mortgage, you will also need to consider how you/your partner will manage mortgage payments should one of you pass away.
The lender will take all of this into account before agreeing to a new interest-only mortgage, and how much they are prepared to lend.
A retirement interest-only mortgage is very similar to a standard interest-only mortgage, but with a critical difference.
There is no set term with a RIO. The capital is only due for payment when you die, move into long term care or sell your home.
There is no minimum age requirement. However, RIO's are aimed at older borrowers, including the over 50s, over 60s, and pensioners who might find one easier to qualify for than a standard interest-only mortgage. Although the RIO mortgage runs for life, the initial interest rate is only fixed for a specific term, so may increase at the end of the initial fixed period.
To confirm that you can afford a mortgage in retirement, lenders will carry out a variety of different checks, and these do vary between lenders. For example; if retirement is less than ten years away, a lender may require details of both your current and anticipated retirement income. They will then use the lower of those two figures for its affordability calculations. If retirement is more than ten years away, your current income may be used to calculate affordability. You will also need evidence of your pension planning beyond the state pension, such as a pension statement.
Remember: A RIO mortgage is affordability assessed. And your home will be at risk of repossession, should you fail to keep up with your monthly payments.
A Retirement mortgage/Lifetime mortgage hybrid option
There are lenders offering more inovative products including hybrid lifetime mortgages. These mortgages are designed for borrowers age 50 plus.
This type of retirement mortgage can be used for a property purchase or to remortgage an existing home.
This mortgage is affordability assessed based on your current and projected pension income, with the loan interest paid monthly.
What makes this mortgage different is the ability to switch to a voluntary-payment option. This means that you can make payments while they are affordable now, but as you move later into retirement you have the option to stop making mandatory payments and revert to optional payments.
This can provide you with the money that you need now to repay your interest-only mortgage and give you peace of mind that you will not be at risk of losing your home when you retire.
There may be options for repaying your interest-only mortgage:
Switching to a repayment mortgage with your current lender.
If you are unable to pay back the capital owed when the interest-only mortgage comes to the end of its term, you should speak with your lender. They may be prepared to extend the mortgage term or switch it to a repayment mortgage.
Switching to a repayment mortgage is a good option if you can afford to make the monthly payments as you will be paying off the interest and capital. However, you will need to be aware that the monthly payments will be an increase compared to what you have been paying on your interest-only mortgage. Your lender will need to assess your affordability before agreeing to a new plan.
Switching part of your mortgage to repayment and leaving part on interest-only.
Your current lender may also consider a part and part mortgage for you, which is a combination of capital repayment and interest-only. With this type of mortgage, you will be reducing the total capital owed each month. However, you will still have an amount which needs repaying at the end of the term.
The lender will again need to assess your affordability, and you will also be required to have a plan in place to repay the capital owed at the end of the term.
Searching the broader residential mortgage market.
Discussing your circumstances with your existing lender can be a great way to find a solution at the end of your interest-only mortgage. But you could still be overpaying by not considering mortgages from other lenders.
We can also consider the wider mortgage market for you when considering equity release and other finance options.
We specialise in later life lending, including Lifetime Mortgages, Home Reversion Plans, RIOs, TIOs, and other specialist later life lending products.
If you are 50 plus and wish to discuss your options, please get in touch.
Repay capital owed from other assets.
Do you own any other property or assets you may be able to sell in order to clear your interest-only mortgage? You may even be able to arrange finance on such assets too, including property mortgages and asset finance.
Selling your property to pay off your interest-only mortgage.
Are you ready to downsize? It may be that you wish to consider selling your property in order to pay off your interest-only mortgage. If you decide that this is the best option for you, but you are not sure it will leave you enough funds for a new smaller property, then you may also consider taking equity release to help purchase your new property. I have written a complete guide on using equity release to help with a property purchase. Click here to read it now.
Summary
Equity Release can be a great way to repay an existing Interest-Only Mortgage.
There are different types of plan available, including:
• Retirement Interest-Only Mortgages - Require monthly repayments.
• Lifetime Mortgages - Allow voluntary repayments.
Both these types of mortgages do not have a set term. If you wish, they can run until, and will only need to be repaid, once you pass away or move into a care home.
While a qualified equity release advisor has written this guide, it is not intended to be used as financial nor legal advice and should not be relied upon.
To understand the full features and risks of an Equity Release plan, ask for a personalised illustration.
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