For many of the ‘asset rich, cash poor’ generation of older homeowners, unlocking some of the value tied up in property is increasingly seen as a legitimate means of supporting their years in retirement. “Many parents today feel less of a cultural imperative to pass on their wealth,” found a recent report from analysis firm Datamonitor. As a result, financial experts are forecasting an explosion in the equity release market. This growing market was worth £11.8bn in the final quarter of 2005, up from £8.9bn in the previous three months. And according to Datamonitor, the current population of 50 to 60 year olds is sitting on £543bn of home equity, which is expected to more than double to £1.4trn by the time they reach retirement.
Equity release schemes: lifetime mortgage vs. home reversion
But when it comes to equity release schemes, the rule is still ‘buyer beware’. The most popular type of equity release is the ‘lifetime mortgage’. Under this arrangement, you retain ownership of your home, but take out a loan secured on it. Repayments are deducted from the sale price when you die, or move into care – but they mount up fast. Someone who borrows £80,000 on a house worth £350,000 would have to pay back more than £343,000 – the full value of their house – if the loan ran for 25 years. The other kind of plan, the ‘home reversion’, is growing in popularity. Under this scheme, you sell all, or part, of your home to a provider for a cash lump sum, but keep the right to live there. They can’t sell it until you die or go into full-time care, but you only get between 35% and 60% of its value, depending on your age. If you prefer to sell only part of your home, you get even less cash now, but will get a share of any subsequent rise in its value.
But using either route, you may end up paying more than you expected and will also have to accept certain restrictions on the use of your home. The average interest rate charged on the capital released under these schemes is 6.95%, substantially more than the rates for conventional home loans. You may also incur penalties, or have your equity release plan cancelled, if you sell your property, have someone else move in with you, or even move out of it for more than six months. That’s why Which?, the consumer association, 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.
Equity release schemes: seek independent financial advice
Ray Boulger of mortgage brokers John Charcol defends equity release schemes as one of a range of sensible options. But he does acknowledge that mortgage advisers have an extra duty of care when dealing with older people. And he warns against going straight to providers for equity release plans, as 44% of customers did last year. “It is particularly important that people go to an independent adviser for impartial advice.”
Even so, many independent advisers are reluctant to go anywhere near equity release schemes, says Paul Farrow in The Sunday Telegraph. “They are not keen on equity release for fear of facing mis-selling claims in the future: a recent survey found that 45% of independent financial advisers would not consider advising on the plans.” That said, the industry is becoming better regulated. Last year, lifetime mortgages became regulated by the FSA, while home reversions are set to come under its jurisdiction next year. However, a ‘mystery shopper’ exercise by the FSA found that two-thirds of advisers failed to explain the schemes properly and exposed people to unnecessary risks.
Equity release schemes: alternative options
That’s why Philippa Gee of independent financial advisers Torquil Clark tells The Daily Telegraph that there are many options other than equity release. For example, you could start moving your money to a savings account, or begin switching from investing in equities aiming for growth to bond or equity funds, which will provide an income. However, if you really feel your only option is an equity release plan, experts advise taking one from a Safe Home Income Plans provider. That’s because they provide “no negative-equity guarantees”. That means that 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.
So by all means consider taking out an equity release plan, says Paul Farrow in The Sunday Telegraph. “Just take care – great care – before taking the plunge.”
Recommended further reading:
See our section on investing in property and housing for more articles, such as why going green can help sell your house and James Ferguson’s piece: Where is the housing crash?