Should you build equity release into your retirement strategy?
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Since 1991, more than half a million UK homeowners have used equity release to access over £30bn from their homes. But while it continues to grow in popularity, it is certainly not for everyone.
Equity release involves borrowing against the value of your home with a “lifetime mortgage” — a loan paid off when your property is finally sold. This could work well for those in later life, but it can be a minefield for those who are younger.
In the current pandemic, the idea of borrowing against the value of your homes may sound appealing to increasing numbers who are house rich and income poor. However, nine out of 10 people aged 55 to 80 do not fully understand how equity release works, according to new research by Sun Life.
In my role as the Money Mentor columnist at the Financial Times, I receive many queries from people in their 50s wondering if this course of action will be the answer to their financial shortfalls.
In the past, equity release has had a chequered reputation — which is possibly why the biggest names in finance prefer to market such products as “lifetime mortgages”. While regulation has removed some of the worst traps for consumers, you really need to do some research — on your own, or with a financial adviser — to find out whether equity release should be part of your retirement strategy. The benefits vary according to your circumstances.
There are currently 379 product features across the market and they can only be sold by financial advisers qualified in equity release and the mortgages are signed off by independent lawyers.
Borrowers can choose to pay nothing back until their property is sold, when they die or when they go into care. Interest can roll up for decades or borrowers can choose to make interest payments. Because lifetime mortgages do not require the payment of interest or capital until the property is sold, the income of the borrower is not taken into account during the application process.
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However, with such a range of products and every potential customer’s circumstances being different, it is vital that full research is carried out and, ideally, all close family members should be part of the discussion.
“A significant number of people start the process and decide it is not for them,” says Jim Boyd, chief executive of the Equity Release Council. “I am delighted, because it means the right interventions are taking place.”
Mr Boyd says that the advice is focused and personalised, adding: “Every homeowner should have sufficient opportunity for pushback. No one should ever enter into a long-term obligation until they feel safe and comfortable and completely satisfied. If they are uncomfortable they should defer until they do feel comfortable.”
The pandemic lockdowns have hindered consultations with advisers, but the market has remained open, he says. “Legal advice is more rigorous with more mandatory contact points when face-to-face cannot take place.”
Interest rates are at historic lows for lifetime mortgages, with an average rate of 4.03 per cent and the lowest rate of 2.25 per cent. Interest rates are fixed at the outset — something that may surprise you.
Most people who release money from their homes opt not to pay any interest during the term of the loan, but roll it up and pay off when their home is finally sold.
With today’s low interest rates, it currently takes 18 years for the average equity release loan to double in size. The cheapest loan would take 32 years to double. The younger you are, the less you can borrow, as there will probably be more years for the interest to roll up.
In the past, loan rates were higher and some children and grandchildren found that the final debt was larger than the value of the home. New regulations mean this can no longer happen — all equity release loans guarantee that borrowers will never owe more than the value of their home even if there is local blight or a housing price crash.
Borrowers who take out equity release schemes need to plan to live in their homes for the long term. If they are not sure about their later life plans, they must be sure their loan gives them flexibility to move without incurring expensive exit fees.
Homeowners are often keen to protect an inheritance for their children or grandchildren, to be able to downsize in later years or to repay capital early without penalty. Around half of the products offer these features.
Advisers use a checklist to find out if children have been part of the decision, whether the customer may be entitled to state benefits that could provide the income they are seeking, or if they have other options to raise money.
Last year, the Financial Conduct Authority (which regulates the equity release market) criticised the fact-finding during the sales process as being too much of a form filling exercise.
Mr Boyd adds: “The FCA’s report found that, while equity release was working well for many consumers, firms needed to ensure advice was suitably personalised and thoroughly documented on every occasion.”
The Equity Release Council (ERC) has since published detailed guidance to reinforce safeguards.
“Our checklist for advisers and practice guide help to deliver the best outcomes for consumers — including those in vulnerable situations — by considering their long-term needs and all possible alternatives to equity release,” Mr Boyd says.
The market is evolving to meet a growing consumer need for equity release. Pensions are no longer adequate for many approaching retirement, and rising redundancies during the pandemic have added to the pressures.
David Burrowes, chairman of the ERC, said: “Retirement finances are increasingly squeezed as generous final salary pensions edge further to extinction. Many older households are already facing a situation where their expenses outweigh their disposable income.”
The Sun Life research showed the main reasons for taking equity release were to boost income, or to carry out home improvements. Money is also used to help children or grandchildren on to the property ladder themselves.
If a lifetime mortgage still sounds like the sort of option you would like to explore, make sure you do your homework.