Should your home be your retirement plan?
Recent house price rises will have eased worries but, as Chiara Cavaglieri reports, now may be the time to abandon the idea of 'property as a pension'
Sunday 06 December 2009
Millions of Britons are still banking on their homes to see them through old age despite property prices falling from their highs of 2007, according to new research from retirement specialist Liverpool Victoria. And it's not just the young but also the more mature who are putting their faith in property. Liverpool Victoria says as many as 1.3 million over-50s plan to cash in their homes to help fund their retirements, despite losing an average of £27,250 off their property values over the past two years.
These figures may reflect a growing confidence in the investment value of property after Nationwide's figures for November showed that house prices have risen by 0.5 per cent – the seventh consecutive rise this year. The apparent revival of the market has rekindled the old debate over whether to rely on your home to fund retirement, instead of the more conventional pension plans.
"The British are a race of property owners," says Jane King from independent financial advisor (IFA) Ash-Ridge Asset Management. "Our love of bricks and mortar goes back generations. Despite two recent recessions, property prices continue to rise, and with interest rates at historic lows it would seem an ideal time, for those with a medium- to long-term view, to purchase property for retirement."
Using property to fund your retirement has several clear benefits, including flexibility; you can sell the property when you choose to, assuming you can find a buyer, and any money you raise can then be spent however you like, whereas a pension must be used to purchase an annuity.
The counter argument is that property prices are unpredictable and anyone unfortunate enough to retire when the market is in the doldrums could find it impossible to sell, or risk having inadequate funds. Despite these dangers, one in six of the over-50s questioned by Liverpool Victoria say that they plan to add value by making home improvements, and nearly a third say they will simply bide their time until property prices have recovered.
Several options are open to you if you're planning to use your property to fund your retirement. One of the simplest is to sell up and trade down to a smaller home. Many homeowners plan to keep upgrading their homes until retirement in order either to downsize and take any profit free of tax or maximise the amount achievable on equity release. This will often mean a bigger mortgage, but that could be a price worth paying.
"I would much rather pay the additional mortgage repayment than a similar amount into a pension plan over which I have no control either in terms of performance or what I can do with the bulk of the money," says Colin Jackson from IFA Baronworth Investments.
If you prefer to stay put, you can take out an equity release plan. There are two main types of equity release: home reversion schemes and lifetime mortgages. With the former, you sell a percentage of the property in exchange for either a lump sum or income. If you still own equity any falls or increases in the value are shared with the home-reversion company.
Taking out a lifetime mortgage is the most widespread equity-release option. It allows you to secure a loan against the value of the house, with interest repaid along with the loan from the final sale of the property. Anything left goes to your beneficiaries. One of the most popular types of lifetime mortgage is the drawdown, which provides you with cash in stages, as and when you need it, instead of in a lump sum, thus keeping interest to a minimum.
Equity release does, however, come with some complications. With lifetime mortgages and home reversion there will be also be substantial arrangement fees for setting up the scheme as well as legal and valuation bills to contend with. Your property is likely to be valued quite conservatively by an equity release company and, more importantly, there will be a significant impact on any inheritance you hope to pass on.
Depending on your age at the time, it may actually be difficult to secure a loan for the amount that you need. For example, lenders may be willing to lend as much as 60 per cent of the property's market value to a 75-year-old, but only a maximum of 20 per cent to someone aged 60 because they are expected to live longer and generate more interest. Home reversion companies make their money by paying far less for the proportion of your home than it is worth on the market. The amount you get paid will vary from one provider to the next, but some can pay as little as 30 per cent of the value. If you wanted to sell half of your home, worth £200,000, you might receive only £30,000 for it.
"The interest rates and charges of these plans must be factored into calculations as they can be expensive if effected early," says Ms King. "This is especially true if leaving assets on death is important. Independent advice should be sought before committing to one of these schemes."
By far the most compelling argument for opting for a pension over property is the tax relief. Pension contributions attract tax relief at the basic rate of 20 per cent. So, for every £80 put away, £100 goes into your pension pot. Higher-rate taxpayers can claim back a further 20 per cent. As yet another tax incentive, you can take up to a quarter of your pension fund as a tax-free lump sum. In addition, occupational schemes are boosted by employer contributions.
Pensions also offer you the chance to spread investment risk – something that can not be said of property. "There is considerable risk in placing all your bets on one asset class – residential property. By contrast, if you use pensions and ISAs you can diversify into all asset classes, equities, bonds, commodities, private equity, overseas assets etc and you can achieve a broad spread of holdings," says Tom McPhail from IFA Hargreaves Lansdown.
Risk takers: 'We've got better things to do with our money'
Georgina Hockley, 24, a company secretariat assistant for British retail group Kingfisher, and her partner, Stuart Dean, 29, a product specialist for an IT company, have recently purchased their first home in Reading and plan to use the property as their main retirement income.
"Lots of people go for the normal pension route but you can never really hang your hat on them," says Georgina.
The couple moved into their two-bedroom bungalow, costing £200,000, just a few months ago. Georgina has a small company pension but intends to overpay on her fixed rate mortgage from Newbury Building Society, although she is concerned about relying on property over a pension.
"If it all goes wrong then we'll have to think about it sensibly at the time. But there are risks involved with everything, including traditional pensions," she says.
"We're both young and we've got better things to do with our money. This way we can just put any extra income we get into the mortgage and have a bit of fun at the same time."
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