Equity Release – A Good Way To Fund Investment Property

Investors are always on the lookout for new and better ways to make their
money work for them. There’s a lot of hype surrounding equity release,
but what does it really mean and is it really a good way to fund a growing
investment property portfolio?

Key forms of equity release

Equity release takes two key forms. The first is the one that we see advertised
on the television at an alarming frequency and is aimed at older households
that want to gain from the value in their property by releasing some of the
cash without actually selling. Effectively, they are selling part of their
property in return for a cash lump sum. Interesting as this may be, it is not
really what we mean when we talk about equity release for investment property.

The equity release that we are looking at as property investors is a little
different. Here the idea is that you may have bought a property for a certain
amount and over a period of time, through the growing market or through renovation,
the property has increased in value, by say £20,000. By approaching your
current mortgage company to increase your mortgage by £20,000 you will
then be releasing some of the equity in your house to pay the deposit on another
buy to let property, and so the chain continues.

Advantages of Equity Release

If the market continues to grow at an average of 9% a year (as it did as an
average over the last two years, 2004 and 2005) it would be possible to purchase
a property for £100,000 and within a year have £9000 available
as part of a re-mortgage. This would then fund a 10% deposit on your next property
of value £90,000. By the end of year two, you would have gained a further
9% on your original property and 9% on property B, allowing a total of £17,910
(9% of £109,000 and 9% of £90,000) to be used as a deposit.

Following this method, it would be relatively easy to accumulate an ever growing
portfolio, PROVIDED the market continues to grow. Returns are likely to be
slightly higher generally as the cost of an extra £9,000 mortgage on
a £100,000 mortgage is generally less than a new mortgage of £9,000.
It also ensures that you stay on top of any deals that are on offer including
fees-free re-mortgages and favourable rates for a set period. Being aware of
current mortgage offers around is fundamental to this investment strategy.

Disadvantages of Equity Release

Whilst your portfolio may be growing at a rapid rate, you are also amassing
large mortgage debts. This is not necessarily a bad thing, so long as you can
meet the expenditure, which if you are renting the properties at a good rate,
should be no trouble. However, it does leave you exposed to a market drop.

If property prices drop, even by a very small amount, you will feel the pinch
across all of your properties. Similarly if you are on variable rate mortgages
and the interest rate increases, you could find yourself in severe trouble.

An investment expert from the Financial Services Authority warns: "Where
equity release goes badly wrong is when homeowners use it to make investments
elsewhere, perhaps in Buy-to-Let property. It might become all the rage if
the stock market continues to rise, and interest rates fall. But equity release
can leave people badly exposed if markets suddenly turn".

Equity release should certainly not be overlooked and, used carefully, can
offer a new investor a great opportunity to build a substantial portfolio with
relatively little in the way of initial investment. But be aware of the dangers
and remember you are effectively gambling on the property market and mortgage
deals – so keep your wits about you and always have a contingency plan.

Popularity: 9% [?]