Funding a Pension through Equity release
'Asset rich, cash poor' is a description that covers more and more people as they spend most of their income while their property increases hugely in value. Not surprisingly, unlocking some of the value tied up in the property is becoming a legitimate means of supporting their years in retirement. Culturally, too, parents do not feel the need to leave a large estate in their will as they once may have done. Consequently, financial experts are forecasting a huge increase in the equity release market. The market, worth £11.8 billion in the final quarter of 2005 (up from £8.9bn in the previous three months), reflects the fact that the current population of 50 to 60 year-olds is sitting on £543 billion of home equity, which is expected to rise to £1.4 trillion by the time they reach retirement.
Lifetime Mortgage versus Home Reversion
People considering equity release schemes should remember Caveat Emptor - 'buyer beware'. Currently the most popular type of equity release is the 'lifetime mortgage', under which you retain ownership of your home but take out a loan secured on it. Repayments will be deducted from the sale price when you die, or move into care — but they mount up quickly. For instance, if you borrow £80,000 on a house worth £350,000, you would have to pay back more than £343,000 — the full value of what will be their house — if the loan continued for 25 years.
The 'home reversion' plan is growing in popularity. Under this scheme, you sell all or part of your home to a provider for a cash lump sum but retain the right to live there. On the positive side they can't sell it until you die or go into full-time care, however you only get between 35% and 60% of its value, depending on your age. You have the option to sell only part of your home but you get even less cash now, although you will get a share of any subsequent rise in its value.
Either way, you may end up paying more than you expected and you will be obliged to accept certain restrictions on the use of your home. For instance, if you sell your property, have someone else move in with you, or even move out of it for more than six months you may incur penalties, or have your equity release plan cancelled altogether. Not surprisingly, the consumer association Which? called these schemes an option of last resort in a recent report. "They are very expensive and can leave you with little or no equity in your home if you keep one for 20 or 25 years," it said. And there's more bad news - the average interest rate charged on the capital released under these schemes is higher than rates for conventional home loans — around 6.95%.
Find a Clued-up IFA
While equity release schemes remain an option for many people approaching retirement, industry insiders acknowledge that mortgage advisers have an extra duty of care when dealing with older people, while warning against going straight to providers for equity release plans, as almost half of all customers did last year.
Even so, many financial advisors are reluctant to recommend equity release schemes for fear of facing mis-selling claims in the future. A recent survey found that 45% of IFAs would not consider advising on the plans. Interestingly, a 'mystery shopper' exercise by the FSA found that two-thirds of IFAs failed to explain the schemes adequately and exposed their clients to unnecessary risks. Having said that, the industry is becoming better regulated. In 2005, lifetime mortgages became regulated by the FSA, while home reversions are due to come under its jurisdiction in 2007.
Experts advise taking an equity release scheme from a Safe Home Income Plans provider because they give "no negative-equity guarantees", which means your beneficiaries will not have to pay the difference between the debt and the property's value, even if the interest rate rises faster than the property increases in value.
People considering these schemes should not forget that they are not the only options available to fund retirement. For example, you could move your money to a savings account, or switch from investing in equities aiming for growth to bond or equity funds, both of which will provide an income.
If one of these schemes appears to be suitable, do your homework and remember, buyer beware.
Think carefully before securing other debts against your home.
Your home may be repossessed if you do not keep up repayments on your mortgage.
The overall cost for comparison is 7.1% APR. The actual rate available will depend upon your circumstances. Ask for a personalised illustration. There may be a fee for the mortgage advice. The precise amount will depend on your circumstances, but we estimate it will be 1.5% of the loan amount with a minimum fee of £500 added on to the loan.
Mayfair Consulting Limited is an Appointed Representative of The Mortgage Times Group Limited, 279 Tottenham Court Road, London , W1T 7RJ , which is authorised and regulated by the Financial Services Authority no. 303007.
