Call us on 0800 464 3677

Compound interest explained

  • You pay interest on the loan plus the interest that’s already been added to the loan
  • You could make monthly repayments to manage your total cost of borrowing, subject to criteria
  • Get your free comprehensive guide below

How does compound interest work?

Unless you choose to make them, there are no repayments to make on a lifetime mortgage until the plan comes to an end. As a result, you pay interest not only on the loan, but also on the interest that’s already been added to the loan. 

Whether interest is added to your lifetime mortgage monthly or annually depends on your plan. But during that first period, the interest is charged and added to the original loan amount - the sum of tax-free cash you unlock from your home’s value.

  • Interest is then calculated and charged on what you owe (the original loan amount plus interest), not the amount you initially borrowed

  • This new, larger amount of interest is then added to your loan, and this cycle continues until the plan comes to an end

  • This means a larger amount of interest is added to your lifetime mortgage each period

  • The interest rate at the beginning of your plan determines how quickly the interest grows which will impact the total cost of borrowing over the term of the loan

Here’s an illustrative example of how compound interest accrues over 15 years:

Year Balance at start of year Interest rate1 Interest added2 Balance at end of year3
1 £81,703 6.74% £5,681 £87,384
2 £87,384 6.74% £6,075 £93,459
3 £93,459 6.74% £6,497 £99,956
154 £209,360 6.74% £14,555 £223,915

Initial release amount of £81,703. Plan subject to a fixed interest rate of 6.74% MER (Monthly Equivalent Rate).
1 With all the lifetime mortgages we recommend, the interest rate is fixed throughout the life of the plan
2 Interest is charged on the balance as at the start of the year, not the original amount
3 The balance at the end of the year including compound interest
4 This cycle continues throughout the life of the plan

This example is for illustrative purposes only and uses the average release amount of £81,703 and monthly
equivalent rate of 6.74% – Key Market Monitor Q1, 2023.

How can I reduce the cost of my lifetime mortgage?

There are ways you could reduce your total cost of the borrowing if, for example, you wanted to leave a bigger inheritance to your loved ones.

Making repayments
You have the option to make ad-hoc or regular repayments to help reduce your total cost of borrowing. Even if you can only make small repayments, it will help reduce the amount of interest you pay over the lifetime of your loan.

So, if you were to borrow £81,703, with a fixed 6.74% MER interest rate, and make no repayments at all, after 15 years, your total cost of borrowing would be £223,915. However, by making a monthly £250 repayment, after 15 years, you’d owe £146,440 - with a total cost of borrowing, including repayments, of £191,440. This means, by repaying £250 a month, you, and your beneficiaries, could benefit from a £32,475 net interest saving. 

Remortgage to another equity release plan in the future
If interest rates reduce in the future, you may have the option to remortgage your current plan to secure a lower rate.

  • If you can secure a lower interest rate in the future (not guaranteed) you can reduce your total cost of borrowing

  • An early repayment charge (ERC) may be payable if you choose to remortgage

Consider a drawdown plan
With a drawdown lifetime mortgage, you only take out the money when you need it. This can help reduce your total cost of borrowing, as interest is only charged on the money you release, rather than the full amount available. More on lump sum vs drawdown.

The benefits

  • You can unlock cash from your home, tax-free, to help meet your needs in later life
  • You’ll always retain full ownership of your home and can stay in it for as long as you wish
  • You can choose to make reduced or no monthly repayments to suit your circumstances
  • You’ll never owe more than your home’s worth with a lifetime mortgage recommended by Mortgage Advice Bureau Later Life
  • You may be able to remortgage your plan in the future to release further funds or secure a better interest rate, although this isn’t guaranteed and may be subject to early repayment charges

Potential drawbacks

Your equity release adviser will also outline the following important things to think about:

  • A lifetime mortgage is a loan secured against your home and subject to compound interest, meaning the amount you owe can grow quickly
  • Equity release will reduce the value of your estate and may affect your entitlement to means-tested benefits
  • Equity release may leave you with limited or no property equity remaining
  • Equity release will reduce your financial options in the future
  • A lifetime mortgage is a long-term financial product and is not designed to be fully repaid until the death or entry into long-term care of the last remaining borrower, otherwise early repayment charges may apply


Get the facts about equity release from the Mortgage Advice Bureau Later Life advisers.

Find out how much you may be able to release with our equity release calculator


Your other options

Before deciding on equity release, our advisers will make sure you're aware of some of your other later life finance options such as retirement interest-only or retirement payment mortgages.

See if equity release is right for you

Equity release costs

Knowing the costs associated with equity release and how to help manage them is important.

Compound interest explained 
How much does equity relase cost?

Things to consider

Because we play by the book we want to tell you 

  • Mortgage Advice Bureau Later Life offer lifetime mortgage products only from a carefully selected panel of providers.
  • We understand equity release isn’t for everyone, and we’ll never say it’s the right option for you unless we’re certain.
  • As part of our advice process, we'll consider whether retirement interest-only (RIOs) and other mortgages may be suitable and can arrange advice on these if appropriate. Advice fee will vary.
  • Unless you decide to go ahead, our service is completely free of charge, as our fixed advice fee of £1,295 would only be payable on completion of a plan.
  • A mortgage is a loan secured against your home.
  • Your home may be repossessed if you do not keep up repayments.
  • You should always think carefully before securing a loan against your home.