Use your home to fund your retirement
Equity release can unlock cash from your house, but it can come at a cost
Sunday 29 August 2010
For decades, the house has been the ultimate status symbol in British society.
Little wonder, then, that so many homeowners find themselves asset rich yet cash poor in retirement. This, combined with the perilous state of pensions, has fuelled a gradual rise in the popularity of so-called equity-release products, which allow people aged 60 or above to unlock cash from the home they are living in as a loan that will be repaid from the sale of the property after they die. Whether used to pay for home improvements, nursing costs or holidays, releasing money from bricks and mortar has become an appealing option for many.
However, new research published by Defaqto shows that a key type of equity release – the lifetime mortgage – has become very expensive. The latest figures reveal the gap between interest rates on these products and their closest neighbour – the long-term, fixed-rate residential mortgage – has more than doubled over the past two years.
It is now cheaper to take out a long-term, fixed-rate residential mortgage than it is to purchase a lifetime mortgage for a 10-year period. A £10,000 loan, for example, would almost double to £19,986 in 10 years if arranged as a lifetime mortgage based on the product's average interest rate of 7.17 per cent. The equivalent loan, purchased as a residential mortgage with a fixed rate of interest for 10 years, at an average rate of 5.72 per cent, would cost only £17,441 over the same period – giving a saving of £2,545.
Viewed over a longer period, the 7.17 per cent interest rate looks even more worrying. In 20 years, the £10,000 loan would have almost quadrupled in size to £39,945, and after 30 years, it would be almost eight times its original value at £79,835.
It is true that there are limits to the amount of withdrawal available through these schemes – typically defined by age and gender – and all equity-release products approved by Ship (Safe Home and Income Plans) carry a "no negative equity" guarantee. This means that homeowners will never find themselves paying more than the value of their property. But that said, the potential for loan values to increase many times over remains a concern.
For a 65-year-old man, the maximum withdrawal available from a rolled-up interest lifetime mortgage scheme varies from 18 per cent of his house's value to 30 per cent, according to Defaqto. By contrast, an 80-year-old woman would be able to obtain maximum withdrawals worth between 25 and 46 per cent of her property's valuue.
So are there alternatives to using this product? The experts believe there are. James Daley from Which? says there are numerous options for consumers looking to get some extra cash in retirement which don't involve travelling down the equity-release route.
"Alternatives can include selling your property to downsize to a cheaper one, borrowing money from relatives, taking out a loan or a conventional mortgage – if you can afford the repayments and find a lender who will lend to retired people – or use other assets such as savings."
Local authorities can also be useful, with some offering grants and loans to elderly people seeking money for home improvements. Charities can be another option.
Another factor to bear in mind, according to Mr Daley, is that taking out an equity-release product can actually affect eligibility for future government benefits – such as means-tested benefits.
Independent financial adviser Mark Loydall, the director of Leicestershire-based Cambourne Financial Planning, says he begins discussing the option with clients only when all other options have been exhausted. Even then, he says, it "can give rise to massive emotions".
Apples and pears
Yet equity-release advocates argue that comparing lifetime mortgages with residential mortgages is not comparing like with like. Nigel Barlow, the head of retirement income solutions at Just Retirement, says lifetime mortgages still offer better value for money over the long term.
"While 10 years appears a long time to fix a rate, a lifetime mortgage's rate will often last far longer than this. Average life expectancy for a male at 65 is 21 years, and for a couple it is quite possible that one of the partners could remain in the house for more than 30 years. At the end of the 10-year period it may not be possible for an individual to remortgage or they may be able to do so only at a higher rate, which is a risk they do not face with equity release."
Another factor to bear in mind is the availability of loans. David Black, a banking specialist at Defaqto, says it is becoming more difficult to obtain a normal mortgage in retirement and, with the economy still looking bleak, this pattern may continue for some time.
Simon Little, the marketing director at Home & Capital, also points to the present rates as a temporary distortion from an otherwise attractive-looking market.
"What we are experiencing at the moment is short term. The way lifetime mortgages are funded is very different from the way funds are raised for residential mortgage products. Lifetime mortgages typically use gilts and/or sophisticated swap options priced over 10 or 15 years in order to secure a fixed rate over the lifetime of the plan. They offer clients a guaranteed level of interest fixed for the rest of their lives, which is quite different from a short-term residential mortgage fixed for three or five years."
Michelle Mitchell, the charity director at Age UK, says equity release can be a useful tool but must be used in conjunction with quality independent financial advice.
"As with any major financial decision, anyone considering equity release as an option should first seek good quality information and advice in order to understand whether or not it is the best option for them. Age UK publishes free information about equity release which can be found by visiting or calling Age UK advice on 0800 169 656 for free."
Experts add that obtaining quality professional advice is essential because equity-release products can be difficult – if not impossible – to reverse once they have been entered into. However, an undercover investigation conducted by Which? last spring revealed trustworthy advice on the subject was sorely missing among the 40 advisers visited. Only one-third of the financial advisers interviewed by mystery shoppers gave advice that passed the benchmark set by Which? and two-thirds failed on one or more aspects of the advice process.
For people wanting to avoid the possibility of interest piling up on a lifetime mortgage the longer they live, there are other equity-release alternatives. For example, home reversion plans allow you to sell a proportion of your home up front – which is collected when it is sold or you die – in return for a lump sum. The main advantage of this plan over a lifetime mortgage is that you know what proportion you are signing over and are unaffected by rising interest rates or falling house prices. Some providers also offer an interest-only mortgage to retired people. The capital debt stays the same but the interest has to be paid. On sale or death, the capital borrowed is repaid.
Alex Edmans, Saga
Many over-sixties have significant equity in their homes but no capital or income to fall back on. In such cases, equity release can be a good option, providing homeowners with access to the required funds without having to make regular payments and they can remain in the family home. That said, equity release will not be suitable for all. It can affect existing benefits and will reduce the value of the estate, and we recommend that people seek specialist advice.
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