Lifetime mortgages, equity release, call it what you will, ever more companies are offering to lend money against the value of your home and roll up the interest until the property is sold. And there’s no doubt about it, business is booming for this new breed of lenders. Last year lending increased to over £2 billion, a 30% year on year increase. If anything lifetime mortgage lending will continue to increase. In the first three months of 2017 the market grew by a staggering 77% compared to the same period last year.
There’s money to be made out of promoting equity release plans. This year alone over £20 million will be earned from brokerage fees. Sooner or later this market is going to attract some of our more unscrupulous citizens. So, a bit of background first, or if you prefer you can go straight to our checklist of key points to consider.
There’s nothing new about equity release. Years ago you could go to your high street bank and sign up for a personal loan, repayable plus interest over 5 or 10 years. About twenty years ago banks started to call it equity release because that sounded better, but it was secured against the equity of your home.
In those days the banks wanted to know what you proposed to do with the money. If you wanted to build an extension to your home, or invest in a family business, no problem, provided always you could show your income was sufficient to maintain repayments. If you wanted to spend the money on world-wide cruise holidays or a speedboat, the bank would probably be a bit more reluctant to hand over the cash. That was caused responsible lending.
The current form of equity release or lifetime mortgage threw a lot of these checks and balances out of the window. There is now no longer a need to demonstrate the ability to repay capital or interest, because both are rolled-up until you sell. Neither is there any restriction on how you plan to spend the money. Indeed much of the advertising for lifetime mortgage products is designed to lure borrowers with the temptation of exotic holidays and other short-term life enhancement goodies.
Once the money is spent borrowers will have to make do with whatever standard of living they enjoyed before they signed up for the equity release plan. That is unless they join the increasing number of home-owners who elect to draw down additional sums under existing finance plans. But you can’t do that indefinitely.
The sector has its own trade body, the Equity Release Council, which aims to set standards for the sector. This should not be thought of as a regulatory body, and is as much dedicated to supporting its commercial members as protecting the Public.
In certain circumstances equity release can be a valuable option for borrowers. For instance, it may well suit elderly pensioners who do not anticipate continuing to live in the same home for an extended period of time. Over a short period of time rolled-up interest should not result in an onerous repayment commitment. However, over a longer period the interest cost can be punitive. For example, a £20,000 plan at 3.9% will become a total debt of £29,000 after 10 years or £43,000 after 20 years.
This does not take into account any future increase in interest rates. In August 2016 the bank rate, then at a historically low rate of 0.5% was cut by a further 0.25% as an emergency measure following the Brexit referendum. Equity release interest rates, currently at around 3.9%, are based on the bank rate.
The Bank of England has announced its intention to raise rates to 0.5% in the near future, and who knows thereafter, given the weak state of the UK economy? In the past the bank rate stabilised at between 5 and 6 per cent. Any increase to those levels would have a devastating effect on the debt burden of retired people who had taken out an equity release plan. In reality they could find their whole home equity wiped out.
So, if you are tempted to take out an equity release or lifetime mortgage plan you need to think long and hard before you take the plunge about whether it is right for you. We highlight some of the hidden risks and options:
Equity release key points
- Is the interest rate of your proposed plan fixed or will it vary with Bank base rates?
- How much will you have to pay in fees to set up the plan? Does that include independent advisory or legal costs?
- Do you have money outstanding on an existing mortgage? Would you have to pay this back before taking out the equity release plan, and would you have to pay an early redemption penalty? You must check with your mortgage provider before making any decisions.
- Your plan may guarantee that you yourself never end up owing money that can’t be repaid from the sale of your home. But can the lender sell your home to avoid negative equity regardless of your own wishes?
- Does it make sense to blow the money on a short-term benefit? If your health is declining rapidly why not have one final fling, otherwise what do you propose to do afterwards?
- What financial assistance, if any, do you want to pass to your children? If you want to give them the money raised to help buy their own home, all well and good. Effectively you are making a two way bet on the housing market. Both properties will benefit from an upswing in housing values, and the cash released will at least enable your children to move onto the housing ladder. Just make sure you consult with them first.
- If you have no plans to pass on your estate to family members when you die, you may at least use the cash to improve your retirement lifestyle while you can. The lenders might take the whole value of your home when you die, but at that time you will have no further need for it anyway. Just make sure you consider your remaining life expectancy realistically. A penurious old age is no fun.
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