In a residential mortgage market of around £275bn, later life lending (to the over-55s) reached £25bn last year. The majority – £21bn – was a combination of traditional mortgages and Retirement Interest-Only loans (RIOs), with the remaining £4bn in sales of equity release products. This trend is likely to continue, with some commentators predicting a market of £60bn to £65bn (and 25% of all mortgages) by 2027.
These products are gaining popularity as solutions to two key issues. First, there are an estimated 1.3m mortgage customers stuck on interest-only mortgages who are now finding they have insufficient savings to pay off the loans at the end of their term. Many would have been sold (and some mis-sold) low-cost endowment policies in the days when mortgages still attracted interest relief and average investment returns were comfortably in double-digits. These customers can take out an RIO if they can prove they can afford the repayments from their pension income. Some RIOs are available to customers as old as 85 at outset.
The second source of demand, mainly driving equity release mortgages (ERMs), is a realisation by customers that they have not saved enough in their pensions to fund their spending needs. ERMs are also being used to repay outstanding mortgages and other debts – and importantly these loans are not subject to the same affordability checks as repayments are optional.
Equity release can be used to access between 20% and 50% of the value of a home, but existing debt secured on the property must be repaid as part of the transaction. Altus surveyed 250 baby boomers (aged 55-64) this year and there were some surprise reasons why people would consider this type of product.
We expected some would need the money to top up their pensions (1 in 7 said this), and others for larger items of spending such as home improvements (1 in 5). However, we found that the biggest reasons for considering equity release were to pay for care home fees (39%) or to help out their children or grandchildren (37%).
This picture will change over time. The over-55s have the lion’s share of property wealth, but 1.6m of them will struggle to achieve a pension income to meet the Joseph Rowntree Foundation’s Minimum Income Standard in retirement.
Out of 8m 55-64 year-olds, 95% will fall short of the overnment’s recommended target replacement rate (between 50% and 75% of working-age income). They were late to the auto-enrolment party, so those with little or no pension provision before will have to find other ways to fund their retirement. Property wealth will inevitably play an increasing role in topping up everyday spending, or at the very least as a last resort to pay for large and unexpected bills in retirement.
One key challenge for the industry is to make equity release a quicker, cheaper solution for the customer. Rightly or wrongly, it’s not seen as great value now, but in addition, it can take many months from first considering the idea to reaching the point of releasing funds. There are still many manual touchpoints within the process including the legal agreements and surveys and, often, the application is not fully automated when it could easily be.
Concerns have also been raised about the sustainability of equity release in the long term, as it is funded by insurers’ annuity books. A sizeable but not unprecedented fall in property prices could put many thousands of homes into negative equity, triggering the ‘no negative equity guarantees’ on equity release mortgages.
Some in the profession believe that homes are being over-valued, increasing this risk and threatening the security of annuities in payment. The PRA is aware of this issue and has issued new rules (PS 31/18, coming into force on 31st December) on the calculation of equity release risks. The argument about whether these are stringent enough rages on and is, I’m afraid, far too technical for my non-actuarial brain.
Whether or not this is another Equitable Life in the making, it seems for now the sun is still shining on the property market (which rose 5% last quarter). Later life lending will play a vital role for over a million interest-only borrowers, and equity release will continue to gather pace as part of the solution to funding retirement.
Article first published in Mallowstreet on 15th May 2019