Many homeowners will have a substantial amount of equity in their house as a result of soaring property prices. It may be possible to borrow against this, says Emma Lunn – although caution is needed.
Soaring house prices mean that many houseowners across the UK will have found themselves with significant amounts of equity in their homes due to rising house prices. Those who purchased their homes ten or 20 years ago will have fared best – but many buyers who bought their homes more recently will also have made gains.
Indeed, the typical homeowner in many areas of the UK will have gained more from the rising value of their house than from their jobs over the past two years, according to Halifax. The bank found the proportion of areas where house prices are outpacing earnings has edged up from 28% in 2015 to 31% in 2017. Unsurprisingly, London, the South East, the South West and the East of England accounted for most of the areas where homes earned more than their owners, while the biggest gap between rising property values and earnings was in Haringey in London. House prices in the borough increased by an average of £139,803 over the past two years, while workers took home an average of £48,353 over the same period.
This is bad news for potential first-time buyers struggling to get on the housing ladder – and in MoneyWeek’s view, extremely bad for the long-term health of our economy. However, for homeowners who need to borrow against the value of their homes, it is obviously better news.
The most obvious way to tap into the value of your home is to sell it and buy a cheaper one. This is known as “downsizing”. If your equity has increased, you can use it as a larger deposit and secure a lower mortgage rate. In some cases, you may be able to buy a home outright and can take the excess equity as cash. This is by far the most sensible way to do so, since you are realising the increase in your wealth that has resulted from higher house prices (which otherwise exists solely on paper – and could easily go into reverse if the property market weakens) rather than running up a bigger debt.
However, for some people, this won’t be practical – typically because they don’t want to move home. In that case, it may be possible to borrow against the equity in your property. Remortgaging is the obvious way to do this but other options include a further advance from your mortgage lender, using your current mortgage’s flexible features, or securing a personal loan against your property. Anybody doing this should very carefully consider whether it’s a good idea, but it’s worth understanding what your options are if you conclude that it’s the most sensible way forward.
The main advantage of borrowing against your property is that loans such as mortgages that are secured against assets usually have lower interest rates than unsecured debt such as credit cards. However, it’s important to understand increasing your mortgage debt could cost you more in the long run, especially if you are consolidating other debts into your mortgage, since this may turn short-term debt into longer-term borrowing. The interest rate may be lower, but you could end up paying more in interest in total over the lifetime of the mortgage.
It’s also important to bear in mind two other pitfalls when consolidating. First, switching an unsecured debt into a secured one means that your home will be directly at risk if you are unable to keep up the repayments. Second, if you’ve incurred substantial debts due to problems controlling your spending, there’s a risk that once you’ve got those borrowings out of sight by rolling them into your mortgage, you may easily end up flashing the plastic and building up more debt again.
Remortgaging to release equity involves taking out a new mortgage large enough to pay off your existing mortgage and also leave you with a cash lump sum.
For example, if the value of your home had increased from £200,000 to £300,000 since you took out your old mortgage, remortgaging would enable you to cash-in on this increase in value without moving. If you owed £100,000 to your existing mortgage lender, but you took a new mortgage of £150,000, you’d receive the extra £50,000 in cash. The loan-to-value (LTV) of your mortgage would be 50% which is still low enough for you to access the most competitive mortgage rates.
Low mortgage rates can help mitigate the cost of borrowing more, especially if the borrower switches from their lender’s standard variable rate (SVR) to a best buy product. “For example, a £150,000 mortgage at 4.5% over 20 years would cost £949 per month,” says David Hollingworth of mortgage broker London & Country. “Borrowing an additional £30,000 but taking a five-year fixed rate of 1.68% [Tesco Bank to 60% LTV with a £995 fee] would see a monthly payment on the full £180,000 of £884 per month, £65 less.”
However, for people already on competitive mortgage rates, remortgaging to borrow more money is likely to mean higher monthly repayments – so you need to be sure you can afford them.
A “further advance” is effectively taking on more borrowing from your current mortgage lender, typically at a different rate to your main mortgage. Repayments can be made either over the full life of the mortgage or a shorter term. This option can make sense if you don’t want to remortgage or switch lenders, or if your lender’s further advance product is at a competitive interest rate.
“The advantage of a further advance is that if you have a very competitive rate of interest on your mortgage it is effectively ring fenced as instead of remortgaging the entire amount it is just the additional amount that may be on a higher rate,” says Jonathan Harris, director of mortgage broker Anderson Harris. “If your existing mortgage carries early repayment charges then you also don’t have to pay these.”
Lenders all have different rates and rules for further advances. Halifax, for example, states you must have held your mortgage for at least six months and be up to date with payments. It will lend a minimum of £10,000 as a further advance, and the total debt must be less than 85% of the property’s value (75% if you have an interest-only mortgage).
Secured loans are a type of personal loan and offer a way to borrow £5,000 or more by using the equity in your property as collateral. Some lenders, such as Paragon and Masthaven, will lend up to £500,000 this way on terms of three to 35 years. Rates vary but current best buys are just below 4%.
Secured loans are similar to a further advance in that your main mortgage stays in place, with a new loan also being secured against the property. They are also known as “second charge mortgages” as the lender will place a charge on your property. If you sell your home – or it’s repossessed – the first charge mortgage gets cleared in full before any money goes towards paying off the second charge.
Loans secured on your property will be cheaper than unsecured personal loans – but they carry greater risks as your home is surety for the loan. Hence borrowers should take great care with these products – it would be highly unfortunate to have your home put at risk for a relatively small loan that you are suddenly struggling to repay.
Finally, some mortgages offer flexible features such as a “mortgage reserve”, which would have been agreed at the point you took out the mortgage.
These products are relatively uncommon today – for example, Woolwich used to offer mortgage reserves on some of its flexible mortgage products although this option is no longer available to new customers. For those that do have a mortgage reserve, the money is accessible via a linked current account. If you use your reserve amount you are effectively going into the overdraft on the current account. The interest rate on Woolwich’s mortgage reserve is the Bank of England base rate plus 4.49%, giving a current pay rate of 4.74%.
More commonly, many mortgage holders will have offset mortgages. These enable them to overpay on their mortgage, reducing the interest payable, with the option to “borrow back” the money later on.