Following on from last week’s column on equity release and its alternatives, let’s consider some of the risks and potential problems you could encounter.
Equity release comes in two forms really: Home reversion and lifetime mortgages.
A home reversion scheme buys a percentage of your home off you and effectively ‘invests’ into it and awaits its capital to appreciate. A 20% sale of your property now could equal 70% of the value later. They aren’t common.
A lifetime mortgage allows you to borrow a lump sum but not make any payments and allow the debt to roll up. That, of course, is going to be exponential and anyone proceeding should do so with eyes wide open.
Decide what you wish to borrow and then calculate the impact on your finances of compound interest. Remember, the debt rises by the interest you are rolling up each year on the amount you borrowed.
You are therefore paying debt on debt – an ever-increasing debt.
The best rate I could find last week was 3.45% with Hodge Life, but competition changes regularly. So, a lifetime mortgage borrowing of £70,000 at 3.45% would be £117,360 in 15 years’ time and £165,630 in 25 years’ time with a whopping £95,630 interest.
That loan is with Hodge life, a leader, but there are lenders out there charging more… much more. Interest rates over 6% are not uncommon.
Luckily some lenders allow you to make regular payments to curb the interest rolling up, so if that is an issue, ensure your potential provider allows it.
If you are worried your provider may come after you because the loan exceeds the house value when you sell or die, fret not a jot, as this is covered by a no negative equity guarantee – a guarantee I’m not sure the providers can afford. In today’s terms, you are getting a good deal.
Whilst a sensitive issue, there are some providers who will offer enhanced loans to those with impaired health and a life expectancy less than normal.
A few problems the old salesmen might have forgotten: If you decided to move, emigrate or needed to sell to pay for care there is a risk the plan could have an early redemption penalty. These can be pretty hefty and be sure what they are before you go in.
Similarly, be sure you are in a portable loan that allows you take the debt with you to another property, although be mindful of the complications if you try to move to a more expensive property.
If you wanted access to cash, but didn’t want the above inflexibilities you could of course consider the new ‘silver mortgage’ as mentioned last week. Such schemes are slightly more expensive than today’s interest only loans but not a lot, given the extra risk.
Whilst the market is currently quite tight (not many lenders), rates are slightly less competitive but will improve. Expect to pay around 3.7% upwards.
The advantage is that you can repay the loan at any time. For example, a 55 year old in need of emergency money but expecting a pension lump sum, would pay a big penalty in accessing the money early from their pension scheme. Instead they might borrow on the ‘silver mortgage’ and then repay its debt in full when the pension lump sum paid out.
The downsides are that you need to prove your ability to afford to pay the debt each month and in the case of a joint mortgage, you both need to be able to pay it in the event of either early death.
The Bank of England are now looking at the cost of equity release mortgages and how providers are protecting themselves in terms of solvency and so they should.
A detailed report on the underlying calculations I’ve read, show that many lenders are exposed by the underlying negative equity guarantee, and may well have to increase their costings to cover that. Now may be the time to fix any rate.
Be sure to take independent financial advice and legal advice before doing anything and involve your family.
If you would like to discuss equity release mortgages, please call 01872 222422 or visit us on WWFP.net.
About the Author / Peter McGahan
Peter McGahan is Chief Executive Officer of Independent financial adviser Worldwide Financial Planning, which is authorised and regulated by the Financial Conduct Authority.
