It’s session number 33 , and we’re going to be talking about Equity Release. This is another one of those subjects which seems to have become taboo. After all, why would someone who has worked hard all their working life to pay off their mortgage, suddenly want to take out a mortgage when they have retired? Surely this can only be the product of a sales idea dreamt up by commission-hungry salesmen out to fleece people of their homes?
Click to Listen
Well, as it happens there are some very good reasons why someone might want to consider equity release and far from being a grubby, dark market, it is a mature and very efficient market with some great solutions. But I would say that, because I’m just a commission-hungry salesman! More on that, in a bit…
This week’s reviews
Two more 5* ratings, but no reviews this week, so you’ll be pleased to know I’m sure that we can skip the usual narcissistic nonsense where I read out the nice things people have said about me. That said, if you do want to leave me a glowing review, then go to meaningfulmoney.tv/iTunes
This podcast is brought to you with the help of Seven Investment Management, a firm of investment managers based in London. They put their name to my show and to my site and videos because they believe in what I’m doing, and I’m very grateful for their support. You can see what they’re up to at 7im.co.uk
Well, the American government finally pulled its collective finger out and passed legislation to raise the debt ceiling and reopen the government on Wednesday. No-one really doubted that they would do so, but it is worrying when grandstanding pollies use something as important as the economy as a political football.
Of course, they haven’t fixed anything, just (in their own words) kicked the can further down the road until next January. So at least we can enjoy Christmas without fretting over things.
In the meantime over here we’ve had talk of fixing energy prices and had British Gas’s nine-point-something percent rise in prices. That’s four times the headline rate of inflation, which tells you a lot about how the rates of inflation are actually calculated. Real inflation is somewhat higher than the 2.7% CPI figure I reckon, and particularly if you’re retired. More than ever, financial discipline and careful budgeting are the order of the day.
So then, Equity Release. What is it? Well the word Equity is one of those words that in the world of finance can mean a few different things. We talk about equities when investing, by which we mean company shares. But in this case we’re talking about the value of a property which is not mortgaged. So, if you have a house worth £200,000 and a mortgage of £50,000, then your equity is the difference between the two, that is, £150,000. If you have no mortgage, then the equity is the full value of the house.
House prices have increased significantly over the last 15-20 years and as a result, for many people their home has a value far and above what they paid for it. Many people with precious little savings or income can be sitting inside an asset worth hundreds of thousands of pounds. Wouldn’t it be great if they could tap some of that value and use it to make their lives a little easier?
30 or so years ago, products were launched to enable people to do this, but they were expensive and had no controls or protection for those taking them out. Consequently the Equity Release world gained a reputation for being shady and crooked.
It has come a long way since then and is now a mature market which is helping thousands of people live a better life in retirement.
So let’s look at it further in the usual format, starting with everything you need to know.
Everything you need to KNOW
1 – Why equity release?
The reasons why people need to release equity form their home is fairly self-explanatory – they ned to use that money. Maybe they want to help their children in some way, or pay for an operation they might have to wait ages for on the NHS. Or maybe they want to enjoy the money on a round-the-world cruise instead of sitting in it every night wishing they could. Whatever the reason – it is about unlocking the value of the home you live in and releasing the cash so you can spend it.
But before we look at how it works, we need to look at some alternatives.
Sell up and downsize – rather than mortgage the home or part-sell it, it may be an option to sell the current property and buy a smaller one, releasing the difference into the bank account.
Sell up and go into rented accommodation – A little more drastic, this is more a theoretical option rather than practical one. In rented accommodation, the house could be sold from under you or you could just be given notice – not the kind of security most retirees want.
Conventional mortgage – rather than an equity release mortgage (more of which in a minute) maybe a conventional mortgage might work better. With many older folk continuing to work, this may well be an easier option than you might think.
Borrow from relatives – Maybe your kids have done well for themselves. You looked after them for long enough, maybe you could borrow from them with the debt being repaid on death?
Let out part of your home – If you have some spare rooms, maybe you could rent them out to a lodger and bring in some extra income that way.
There are clearly plenty of alternatives, but assuming none of these are acceptable – how does equity release work?
2 – How to release equity
Broadly speaking there are two main ways of releasing money from the value of your home: A lifetime mortgage, and a home reversion.
As the name suggests, this involves mortgaging your home to a specialist equity release provider. Instead of making repayments to the lender each month, the interest is added to the loan so it rolls up over time.
You can either release a lump sum from the value of your home, or just arrange a facility which you can drawdown when needed, or maybe as an ‘income’.
The amount you can release from the mortgage is dependent on your age and health – the older you are the more you can release. Don’t expect to release more than 25% of the value of your home though, maybe a little more in some circumstances.
The alternative is a Home Reversion plan, where rather than mortgage your property, you sell it to the reversion company. You can either sell all or part of the property but you retain the right to live in the property until you die or go into permanent long term care.
Needless to say you won’t get anything like the full value of your home when you do this. More likely it’ll be 50-60% of the market value. The difference between what you sell your interest for and the market value of the property is the reversionary company’s take on the deal.
You can generally release significantly more from a reversion than you can from a lifetime mortgage. If you only opt to sell part of the property value, there may be an option to release more later on.
Both these methods come with certain protections and guarantees, which I’ll cover a bit later on.
3 – A word about interest roll-up
One of the biggest fears that people have about lifetime mortgages is the rate of interest roll-up. Surely, as you are not paying off the interest but instead adding it to the loan each month, it will snowball to a huge figure before too long?
That is a natural fear but it might help to put some actual numbers on it for reassurance.
Take the general rule of thumb that if something compounds at 7% the value will roughly double every ten years. So if you borrow £50,000 today and roll up interest at 7%, after ten years the loan outstanding will be £91,922. After 20 years, the loan outstanding will be £180,826 (The exact figure depends on whether the compounding happens monthly or quarterly or whatever.)
Now bear in mind that people who take out Equity Release are usually in their 70s or older. It’s possible to live 20 years from that point but for many that won’t happen.
But more importantly it is important to understand that chances are, the property value will rise too.
Assuming house prices rise by 3% per year, the value of a £200,000 house will be £260,954 in ten years and £350,701 after 20 years.
So assuming you borrow £50,000 at outset, on a property worth £200,000, then at year ten there will still be £169,031of equity in the property. After 20 years the equity figure will be £169,874.
Now, inflation hasn’t been taken into account here, but this works equally well to reduce the amount of the loan in real terms as it does the property value.
The point is that while people think that the interest roll-up will decimate the value of their estate in no time, in reality that isn’t quite the case.
So we’ve looked at reasons why people take out equity release and the alternatives to doing so. Then we covered the two main methods for releasing equity and finally hopefully dispelled some of the fear of interest roll up.
Let’s now look at the action steps you need to take if you are considering equity release for yourself or someone you know.
Everything you need to DO
1 – Think Carefully
The first ting you need to do is STOP and think through the decision very carefully. Releasing equity form you home has various knock-on effects that you need to be aware of before you proceed
i. Be aware of the impact of ER on your state benefits.
Most people who release equity from their home are cash poor but asset rich. Because of this you may be receiving some state benefits which are means tested. If you suddenly receive a lump sum of cash in your bank account from an equity release scheme, any means-tested benefits could be taken away from you.
Examples of this could be Pensions Credit or grants for home improvements. Be aware of this and talk it through with an adviser and with the awarding body for the benefits or grant before you proceed.
ii. Consider the impact on the inheritance you leave your children.
Either selling all or part of your property, or mortgaging it will reduce the value of your estate, meaning you will be leaving less to your children or other beneficiaries. It’s important to remember that this is your money first and not your kids, but still, their future will be impacted by your decision to release equity.
You may want to consider talking to them about it and get their input. Every family is different but hopefully they will understand that your current needs are more important than their own future inheritance. Money can be a divisive issue for any family, so be careful and tactful, but remember to look after number one first.
iii. Consider the impact of death or long term care.
All equity release plans come to an end either on death or on the last owner of the house going into permanent long term care. When either of these events occur, the house will need to be sold to pay the loan back or to satisfy the reversion company. Usually, a window of time is given before anything needs to be done – often six weeks.
This necessity to close up the arrangement is called a ‘condition subsequent’ and is an important factor. Who will arrange this for you? Think this through before embarking on any equity release scheme.
iv. Consider future changes in circumstances.
It’s important to think through any future changes in circumstances. You may not always need the amount of money you want to release now. If there are two of you living in the property, what if one of you dies? Will that change things significantly for you? What about if you move house in future into sheltered accommodation perhaps, or into an annexe with family. Will the decision to release equity now impact that future decision?
2 – Only ever arrange ER under the SHIP Scheme
SHIP stands for the Safe Home Income Plans scheme. It is a set of six voluntary standards that equity release companies can adhere to. It isn’t a regulatory system under which you can complain, rather a set of promises or guarantees that the equity release companies make. There are six of them:
i. You can live in your house for life – no-one can sell the house from under you or ask you to leave. Written into the contract for the equity release is your right to live in the property for as long as it is your main residence.
ii. The Equity release firm will provide a ‘fair, simple and complete’ representation of their plan. In other words, they will make sure that all the documentation will be as clearly presented as possible to enable you to make an informed decision.
iii. You have the right to transfer your equity release plan to another property. Specifically relating to lifetime mortgages, as long as the new property is suitable to be mortgaged, then the SHIP scheme allows you to ‘port’ the mortgage form one property to another.
iv. You have the right to choose your own independent solicitor. This is important – you need your own solicitor to advise you personally, not just whichever one is being used by the equity release firm.
v. SHIP Certificate. Your legal adviser signs the SHIPCertificate only when they are satisfied that you have fully understood the implications of the equity release deal. Think of it as another check and balance which certifies that you are going into an equity release deal with your eyes open.
vi. No negative-equity guarantee. This is the headline promise of the SHIP scheme really. It imply states that you can never owe more than you house is worth. Some early equity release arrangements meant that in some cases where the borrower of a lifetime mortgage lived a long time and interest rates were high, the interest rolled up past the value of the property. When the borrower died and the house was sold, in some cases there was still a remaining debt to be paid – an awful situation to leave to your beneficiaries.
Whatever you do, make sure that whatever equity release scheme you opt for, it adheres to these six tenets of the SHIP scheme.
3 – Take advice, both financial and legal
As always, I’m going to say that you should seek advice. You should certainly take legal advice – it is in fact a requirement for the lender that you do so. But seeking good financial advice will help too – there are a wealth of options out there.
Your solicitor is there to act on our behalf when dealing withe the equity release company. They are working for you and are checking that you understand the implications of what you are getting into. They will also complete the conveyance of the property, either completing the charge if it is a lifetime mortgage or the full conveyance when you sell to a home reversion company.
Your financial adviser will take you through the alternatives to equity release and then, if you decide that ER is for you, they will take you through those options in detail, ensuring that you understand what you are getting into.
When finding both a solicitor and financial adviser, try to find specialists, not generalists. You want to be working with advisers who have experience in dealing in this particular area. Make sure your advisers put their advice in writing
4 – Remember the PEER Group checklist
PEER stands for Professional Excellence in Equity Release. It is a checklist of all the things your financial adviser needs to cover with you when taking you through the advice process for Equity Release.
There are 19 items on the checklist. When we are advising a client in this area, we will work through the checklist, covering all the issues and at the end, both the adviser and client will sign the checklist to confirm that all the bases have been covered.
Rather than bore you with all 19 items here – many of which I have covered above – I have prepared a PDF with the checklist on it, which you can download here.
Use this list to make sure you have considered everything you need to. Even if your adviser doesn’t have the checklist physically to hand, make sure you do so. It provides structure to the conversation and makes sure everything is covered.
Hopefully you’re getting the point that equity release is a big deal. In fact it’s a huge deal, involving (usually) a once-for-all decision which affects not only you but your family too. Because of that it is not to be taken lightly as a means to get your hands on some dosh.
Please make sure you think though all the options available to you and each of their implications. Take good advice, as ever, and take your time to think things over.
If I can help you with this remember there is a Work with Pete link at the top of the website which will take to a page explaining that any advice I give would have to be through my practice at Jacksons Wealth in Penzance. That said, I deal with many clients via Skype these days, so geography need not be an obstacle to us working together.
That's it for this session of the MM podcast, I hope it was helpful. Did I miss anything? Do you have any questions? If so, please leave comments or questions below.
If you like what you hear on this podcast, please leave a rating or review on iTunes by going to meaningfulmoney.tv/iTunes. This helps others to hear about the show and to subscribe, because it keeps me near the top of the rankings.
I hope you enjoyed this session. Next time we'll be talking about the financial and emotional impact of death on those left behind. It’s an interview with my friend Dennis Hall, and I know you’re going to love it. If you have any questions about this, go to meaningfulmoney.tv/feedback and leave a voicemail and I’ll put your question to Dennis.
Thanks for listening – I'll talk to you next time