The current generation of retirees has benefited greatly from quite dramatic increases in house prices over the years. And this is great news for retirees in general, but for some people they find that the majority of their wealth is tied up in their property. Now for those struggling to afford the retirement that they want or desire or even the retirement they need when it comes to paying for care or the later life costs, equity release can be an appealing option.
What is equity release?
Equity release is essentially a way that we can enable people to use the value in their home to help with their retirement planning. Whether that be an aspiration they have in retirement for a certain lifestyle or they want to help out other people in their family or there’s some other issues that they want to sort out, maybe going into retirement.
It’s a way of releasing money from a property asset in order to help with financial planning in retirement, to meet their goals and objectives really over that period of time. So, it’s one of those things that can really give a boost to people’s finances in retirement should they wish to look at that particular avenue.
Otherwise known as a ‘lifetime mortgage’
When we talk about equity release, we’re talking about life time mortgages. So there are some similarities between a lifetime mortgage and a normal residential mortgage. The big difference is that you’re not looking at having to make regular repayments necessarily.
If you think about the typical individual who has retired, they’re not using human capital to generate their income from work. And therefore, this is a way of getting access to a mortgage solution without having to physically make the repayments during that period.
Having said that, a lot of lifetime mortgages now have gone down the route of allowing some repayments to be made. So things have changed in this arena over the last few years because some individuals may choose that they actually want to make some repayments so they can have some control over how much mortgage they’ve got outstanding.
Therefore, they don’t necessarily have to continuously roll up that loan and increase that loan if they don’t want to. This sort of arrangement is evolving, there are more options for people, but it’s essentially in most cases it’s a case of taking out a mortgage on your main residential property.
Working out how much you can borrow
A lot of the time, mortgage lenders will look at age and maybe they’ll make some decisions based on that age and the potential term of the mortgage, to work out what sort of loan to value somebody might be able to get.
The important thing though is looking at what someone actually needs. So, whilst you might have a maximum loan to value that that person might be eligible for, the starting point is always what they need. Because after all, there’s no point in taking on a bigger loan than is necessary.
The process involved
Essentially what happens next is the underwriting process and valuations on the property; the normal sort of process with regards to lending. The money is then released to that individual and the charge is then on the property as you’d find with a normal residential mortgage.
Repaying the loan
The customer doesn’t necessarily have to make any repayments; they certainly wouldn’t make any capital repayments. If they do, then there’s other things to consider, like early redemption charges and so forth, but typically they’ll just have that lump sum or they may take the loan towards an income.
The interest payable would just be added to the loan on an ongoing basis. They can decide to make some interest payments should they wish or some other payments subject normally to a maximum of roundabout 10% a year, something like that, if they choose that particular route.
What about any guarantees?
You’ve got things like no negative equity guarantee. So if that loan is rolled up to the degree that actually it’s taking up a larger percentage of the property value, by having that sort of a safeguarded environment through the Equity Release Council, which safeguards equity release plans for those who have signed up to it, it means that their family isn’t going to face problems later on.
Each loan supplier will have a different set of criteria. It’s normal for there to be a 50% loan to value, so you’re not taking the whole of the equity in the property, but it’s going to depend on their age and their circumstance. One of the things that we do as a provider of lifetime mortgages is to look at their health and lifestyle.
Loans are typically repaid should the individual pass away or they move into something like a care home environment. Firms take a view on longevity and those sorts of things, which would have an impact on the loan to value available. We find these days is that each case is really judged on a number of different criteria; age, property value, the interest rate might be different depending on the loan to value as well. You might get differences in how much is available depending on whether the client is looking at a regular income or a lump sum or indeed the advance today, but keeping a reserve in place for later.
More and more plans are being tailored to the individual to see what that individual personally could achieve, in terms of the LTV and the interest rate available.
Equity release getting a bad press
Back in the day you had a lot of plans which were home reversion type plans or shared equity type arrangements whereby the lender effectively owned part of the property or a percentage of the property. So if you were taking 25% of the property as a loan, there were plans where actually that lender then retained 25% of the property, whatever that property grew to.
Were people clear in terms of what they actually got? Did they understand the ramifications of that? Did they understand how the loan would build over a lifetime? I’m not sure that in every circumstance people were fully aware around that. We’re in a different disclosure regime these days as well.
There has been some bad press if we go back a number of years on equity release and I guess some people still remember those times. And that’s impacted on people’s attitudes towards this type of arrangement. But in recent years you’ve had Equity Release Council bringing in these safeguards that the people are signing up to.
So whilst you’ve got regulations through the FCA, you’ve also got safeguards to make sure that firms are acting responsibly, having things like a no negative equity guarantee, making sure that people are aware of the facts around how charges might be born within the arrangement, that sort of thing.
A shift in attitudes
There’s an attitudinal difference now whereby people are starting to think more holistically about their retirement planning. So we’re not now talking necessarily about something that people might necessarily do as a last resort because they’ve run out of capital or whatever it might be, or they’re helping out the next generation.
It’s more a case of we’ve our world has opened up in terms of things like pension freedoms for example, and more options for people to say, “Well actually I’m going to use a different asset. I’m going to retain that pension as a family trust for example. I’m going to use that, perhaps that’s going to be what I’m going to use last in some circumstances and I’m going to look at, can I draw from my property first?”
We’ve seen massive house price raises, so we’re talking about significant assets for individuals that they might want to draw upon. The market has changed, attitudes have changed. People are looking at property as an asset rather than just the home, which clearly it is, and there are some emotional aspects there as well, but people more and more are looking fairly pragmatically and objectively around, how can I use this property in retirement? Perhaps more so than they’ve done in the past.
Getting a regular income instead of a lump sum
This is a fairly new option with some lifetime mortgages.
It works in a similar way in terms of assessing what the client is eligible for in terms of how much the lender is prepared to offer them based on their property value and things that we’ve talked about already.
But rather than having that in one lump sum, it’s really just a case of turning it into an income. So often you’ll find that over the plan as a whole, the individual might actually be able to take more than if they had the lump sum up front.
So that might be a reason for looking at this. And also of course if they haven’t taken all of that money up front, they’re actually working out how much they need on a monthly basis. Then obviously interest won’t apply until those monies are actually drawn, which again can be beneficial in terms of the roll up of the loan and things like this over the longer term. That could represent really good value for a lot of people.
You also might get this situation where the individual could be looking at a reserve, so not necessarily taking all of the amount they’re eligible for now even if it was on a lump sum basis, but maybe keeping some aside or knowing that there’s an extra pot there should they wish to draw on it . Again, there’s no interest payable until such time as those monies are actually withdrawn from the equity.
So there are some advantages, if somebody really mapped it out and worked out through maybe cash flow modelling “Well, how do I want to use a property?” Rather than having a lump sum and then converting it into an income, maybe for a lot of people it’s taking it as an income in the first place and then the benefits that that might have for me in terms of costs and interest on the loan.
A retirement interest only mortgage – how does it compare to equity release?
We’re seeing more and more people coming to the end of an interest only mortgage, getting to retirement age and then thinking about what to do next. Particularly if you’ve got a situation where there is no repayment vehicle and so this is why perhaps people are starting to talk around retirement interest only mortgages.
When it comes to how much you can borrow, you’ve got the same criteria as you have with any other residential mortgage in the sense that you would have to prove affordability, as you repay the loan from day one.
Now that might be a good option for people if the interest rate stacks up and actually they’ve got an income coming through, as the lender might take into account a retirement income.
Obviously with a retirement interest only mortgage, so closer to a normal residential style mortgage, if the individual can’t make those repayments, then clearly there are going to be ramifications, whereas you wouldn’t have that with a lifetime mortgage where the interest is rolling up to be repaid on death.
You’ve got to weigh all these things up of course and you’ve got things like a no negative equity guarantee on the lifetime mortgage as well.
Finding out more
Sit down with a financial advisor and get some expert advice from somebody who can take a holistic view that says, “Okay, what have I got in terms of property asset? What about pensions? What about other investments?”
Search for an adviser with an equity release qualification who’s also a member of The Society Of Later Life Advisers and the Equity Release Council, which makes sure that somebody is operating within the guidelines of the ERC as well as being regulated by the Financial Conduct Authority.
Your home is an asset, which can help the individual as part of their retirement planning. Try to get past some of the assumptions around equity release and really look into the detail behind it because it can be a real enabler for people to have a better retirement.