Harvey Jones explains why, for him, equity release will always be a last resort.
There are plenty of ways to fund your retirement, and to be frank, most of them aren’t much fun. Nobody enjoys setting aside money for when they’re old and grey, when they would rather spend it today, while still fresh and frisky.
But some methods are definitely preferable to others.
Last and least
Perhaps the best way to save for retirement is through a company pension scheme. That way, your employer shoulders between 3% and 5% of your contributions, easing the burden on you.
The very best way (aside from a Euromillions lottery win) is a final salary scheme. Unfortunately, these are rapidly disappearing, as employers can no longer afford them.
A stakeholder pension isn’t a bad, a stocks and shares ISA might be slightly better. Becoming a buy-to-let landlord could make sense, if you can deal with dodgy tenants. Downsizing is an option, but dangerous.
Finally, if you own your own home, you have one more choice. It is called equity release, and it is a method I would only choose as a last resort to fund my own retirement.
SHIP sails on
I’m not having a pop at people who have taken out an equity release scheme. I’ve interviewed plenty, and they said it made their retirement far more comfortable.
Nor am I going to condemn the companies that offer these schemes. The industry has worked hard over the last 10 years to revive its image and protect its customers, led by trade association Safe Home Income Plans (SHIP). It has been an honest effort, and deserves praise.
But I would still try to avoid equity release, because are so many better ways of funding your retirement.
Provided you started soon enough.
If you haven’t, here’s what you need to know:
Lifetime mortgages
The most popular type of equity release is called a lifetime mortgage. This is similar to taking out a mortgage on your property, except you don’t make any repayments while you are still alive. The capital and interest payments roll up year after year, until they are finally cleared from the proceeds of your property sale when you die or go into care.
Any money left over can go to your loved ones as an inheritance.
SHIP members guarantee that you and your partner can continue living in your property. They must also offer a “no-negative equity guarantee”, which pledges that you can never owe more than your property is worth. This is valuable protection.
Circle of life
At heart, equity release is actually a clever idea. Millions of pensioners are struggling to pay everyday bills despite living in properties worth hundreds of thousands of pounds. Equity release squares the circle, by turning all that spare equity into cash that they can spend today.
But have you ever seen a square circle? Can you even imagine one? It takes a lot of effort, and so does equity release.
Please release me
Equity release lenders are taking on a lot of risk. If you sign up to a scheme at age 65, you could live for 25 or 30 years before the lender gets a return on its money.
To offset this risk, lenders limit the amount you can borrow against your property. The market value of your property may be, say, £200,000, but you won’t be able to borrow anything like that much.
The older you are, the greater the percentage you can borrow, because your life expectancy is shorter and the lender probably won’t have to wait as long to get its money.
At age 65, you can borrow a maximum of 30% of your property’s value. So you’ll give up first call on the future sale proceeds of a £200,000 property - and you’ll get just £60,000.
At age 70, you can typically borrow a maximum 35%. So now you can get £70,000. At age 75 you can borrow 40%, and so on.
Now this isn’t crooked. It isn’t a rip-off. The figures have been produced by honest actuaries. That no-negative equity guarantee doesn’t come cheap.
But £60,000 from a £200,000 property? It ain’t much.
It won’t give you much of a pension boost either. If a man age 65 converted £60,000 into an annuity he would be lucky to buy an income of just £3,500 a year.
He would get even less if he wanted the annuity to cover his wife or partner after his death, and less still if he wanted it to rise in line with inflation.
The 30-year mortgage
Another problem with lending money for such a long period is that the equity release company charges much higher interest than on a standard residential mortgage.
Nobody knows where interest rates will be in, say, 2021 or 2033, so equity release providers put in a safety margin to protect themselves from a dramatic increase in rates. And so they charge you fixed interest rates of 7% or 8%, depending on the scheme.
By comparison, you can get a standard 10-year residential mortgage for under 4.5%.
Over the years, that interest will keep compounding, eating into your children’s inheritance. Although if property prices continue to rise, they may still get a hefty sum on your death, so it isn’t all bad.
Some schemes include a mortgage inheritance guarantee, so you can be sure your loved ones get something.
Lender of last resort
Despite the drawbacks, the number of people taking out an equity release scheme leapt 10% in the past three months, according to SHIP.
For many, the cash injection will have been a lifeline. As inflation hits pensioners hard, sales are set to rise sharply.
Equity release is heavily regulated. There has been little sign of mis-selling. If you choose a reputable member of SHIP, take advice from an independent equity release adviser, and talk over your decision with your family and a trusted solicitor, it could make your final years a lot more pleasant.
But for me, it will always be a last resort. Join your company pension scheme, if you’re offered one. Pump money into a personal pension or Isa. Pay down your debts. Save, save, save. Invest in property. Downsize, if you can make the sums work. Ask your family for help, if your pride can stand it.
If none of that bears fruit, there’s always equity release.