In a warning to older homeowners, the report, in Which? the magazine of the consumer group, said that “irresponsible advertising” was drawing customers into equity release schemes that could leave their properties worthless.

Norwich Union, the UK’s largest insurer, was singled out for criticism for its advertising. The advertisements suggest that a scheme could pay for a trip to New York or “something for the family”.

Malcom Coles, Editor of Which?, said: “Lenders want to sell you a lifestyle dream, but the reality can be very different. These schemes could turn into a financial nightmare which can stay with you the rest of your life.”

Mr Coles said that home reversion schemes, a type of equity release product that allows homeowners to sell a portion of their property in return for a lower sum of money, should be avoided altogether, because they are not yet regulated by the Financial Services Authority.

The schemes are also criticised in the report for being “expensive”. A homeowner borrowing £80,000 on a property worth £350,000 using a standard scheme would have to pay back £343,350 over 25 years — almost the full value of the property.

The report will come as a blow to the £4.6 billion equity release market, which almost doubled between 2002 and 2003 but has been suffering a slowdown ever since as house price growth has slackened.

The image of equity release plans has only recently recovered from the mis-selling scandal of the late 1980s, when some pensioners faced losing their homes after buying into risky investment bonds.

Ed Wells, of Troika, a financial services consultancy, said: “Up to 2003, growth had been very strong, but the equity release market relies on house prices. If house prices slow, the number of equity release schemes sold slows with it.”

Despite the introduction of new equity release schemes by Prudential and Norwich Union last year, large high street lenders have so far shied away from offering the schemes because of worries about potential mis-selling scandals.

Last year, FSA investigations found serious flaws in the advice given to homeowners interested in equity release. The schemes have also been criticised for confusing consumers.

However, the mortgage industry said that the criticisms from Which? were “misplaced” and did a disservice to older homeowners who had no alternative source of income. Sue Anderson, of the Council of Mortgage Lenders, said: “Which? is right that there are cheaper methods of borrowing than releasing equity, but for a group of older people who do not have access to other sources of funding, it is a useful way to pay for maintaining a property or improving their quality of life.”

Age Concern, the charity for older people, which also offers an equity release scheme with Northern Rock, the bank, said that, although the comments were “harsh” and the way Which? had conducted the study was flawed, the report did offer sensible advice.

Norwich Union denied the accusation that its advertising was irresponsible. Darren Carter, marketing director for Norwich Union Personal Finance, said: “The criticism is misrepresentative of our approach to selling equity release products. Since we entered the equity release market in 1998 we have been very pro-regulation, and we do not sell to anyone without going through a detailed advice process.”

Despite concerns about the dangers associated with equity release, Mr Wells expects the market to grow in 2006 because of improving housing market conditions and an increase in competition from lenders that will lead to “cheaper and more flexible schemes for homeowners in need of an income boost”.

THE BENEFITS AND DANGERS

Lifetime Mortgages

You take out a loan secured against your property. Normally the maximum you can obtain is 50 per cent of the property’s value and you receive a lump sum or regular income.

You own the property until you die or move into residential care. The loan plus rolled-up interest is repaid at that time. There are now guarantees that the repayment figure will never exceed the market value of the property.

Interest rates on lifetime mortgages tend to be one or two percentage points higher than the best standard home loan rates.

Lifetime mortgages are regulated by the Financial Services Authority (FSA).

Home Reversion Schemes

You sell part or all of your property to a financial company in return for a lump sum or regular income. From then onwards you are a tenant. When you die, or move to residential care, the company sells the house and collects the proceeds.

You have no need to worry about increasing interest repayments on a loan, but there are drawbacks. Most people sell all of their property, depriving themselves of the benefit of future price rises. Also they will not obtain the property’s full market value when they sell. The younger they are the less they will get. If you are aged 75 and you sell a property worth £100,000 you might receive only £50,000 because the company will not be able to cash in until you die or move.

Home Reversion Schemes are not regulated but last year the Government said it would be bringing them under the wing of the FSA. This is expected to happen next year.

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