One of the most frequent requests for information from elderly readers over the years has related to the contentious issue of home equity release - the ability to sell all or part of a family home in order to supplement an inadequate retirement income, but to continue living in the house.
Recently, Mr C from Bray, Co Wicklow, who has a house worth £450,000, and Mr B and Ms F from Raheny have written to us seeking more information about a scheme that was introduced two years ago in Britain and at least one that may be introduced here soon.
Our first two readers referred to a British scheme known as the Shared Appreciation Mortgage from the Bank of Scotland in which up to 25 per cent of the value of a property can be borrowed at a zero interest rate, repayable upon death or the sale of the house. At that point the bank would also take 75 per cent of any appreciation in the value of the property.
This scheme, which does not involve any age limit, has proved to be the most popular and satisfactory of all the various home equity release plans that have been introduced in Britain. The scheme was heavily subscribed when it started about two years ago, however, it is no longer being widely marketed. Nor was it duplicated by many other lenders who were concerned about the fluctuating and sometime volatile British property market.
Home equity plans - some of them annuity based, others involving the purchase of unit-linked investment funds and trusts - have mainly failed in Britain. Some have done so quite spectacularly because they were too closely dependent on the performance of stock markets, which cannot be guaranteed to perform at consistently, satisfactory levels every year for the rest of someone's life.
In some cases, the elderly person involved was forced to sell the property to meet the debt to the bank or life assurer, usually at a substantial loss. In other cases, the arrangement was challenged by an heir who was unhappy about the loss of a future inheritance. Some small schemes that were introduced in the Republic in the early 1990s never really got off the ground, mainly for funding and legal reasons.
Ms F, our Raheny reader, writes to us about a new scheme which was given a prominent airing twice on RTE radio in recent months; she enclosed a copy of a brochure which she received from the company concerned.
This plan, according to the brochure, involves releasing up to 60 per cent of the value of a mortgage-free property on a draw-down basis over the owner's expected lifetime. Properties would need to be worth a minimum of £100,000 and the owner to be at least 70-years-old. In the example given, it states that a single or widowed owner, age 70, with such a property might have a l3-year life expectancy and could therefore draw down approximately £4,500 a year or about £58,500 in total, the balance going towards typical setting up costs in year one. As with similar plans, the owner would continue to live in the property, pay all the maintenance, council taxes, etc., and at death or sale of the property, his estate would pay over the accumulated draw-down value to the company. If all goes well and the property increases in value by at least 5 per cent per annum, any residual value from the sale will be passed onto the designated heirs.
The mechanics of this scheme are that the property is "acquired" by the company "under the terms of an option agreement" via a mortgage contract. The lending rate - to the company - is 9 per cent. The other important assumption is a 5 per cent per annum escalation of the value of the property.
The brochure Ms F received was a bit vague about other aspects of this plan, so we contacted one of the principals of the scheme - the director of a well-known Dublin-based financial planning company and an auctioneering firm in Co Clare. We are not naming the companies since the scheme is not operational yet though the spokesman said he was hopeful it would be by the new year.
The brochure our reader received was only a draft, he said. The maximum realisable amount is 50 per cent of the property value, not 60 per cent, but the operators of the scheme may be prepared to go up to 60 per cent of the market value of a house, once it is up and running.
The principals are trying to raise the necessary capital - £10 million - from pension funds and possibly life assurance companies instead of the banks, the spokesman told us.
"We approached a couple of banks but they are not interested in investing in long-term, non-interest returning products." Pension funds, on the other hand, are more likely to be interested in property investments that carry a promise of an annual 9 per cent return.
The fact that this company is not in operation yet and will not be unless it attracts considerable capital, will disappoint many older homeowners who may have heard about it and made enquiries. The spokesman acknowledged that the issue was "a potential minefield since you are dealing with some of the most vulnerable people in society".
A scheme like this, he said, has to be financed and organised carefully in order that all the potential downsides, such as the risk of someone living longer than expected, a fall in property values and the objections of relatives and regulatory considerations, are all taken into account before a single contract is signed.
"This is why we have gone for a drawing down facility on a mortgage, rather than a lump sum payment which was shown in Britain to be irreversible. For example, the 70-year-old will have the facility to draw down £4,500 a year, but may or may not do so every year depending on his circumstances."
This, he said, should offset the risks associated with living longer than estimated. "We have also built in a property value review at least every five years to take into account any changes in the property market and the fact that we have made assumptions about the property growing by 5 per cent to make the mathematics work. The review will mean there will be time to make adjustments."
The company, he said, is acutely aware of the difficult legal position it and its backers could be put in by objecting children or other heirs. The contracts will need to be prepared carefully and the legalities will even cover issues currently dealt with by the rules that dictate what is known as an "enduring power of attorney". Aside from provisions made under this legal arrangement in the event the property owner becomes mentally incapacitated, rules that dictate enduring powers of attorney also require that close relatives be notified of the owner's intentions, in this case, effectively to sell a part of the house to an intermediary.
By seeking prior approval, the company hopes to avoid any legal challenge by children or other heirs. In order that it meet all the regulatory conditions under the Consumer Credit Act and other legislation to operate this scheme, the company spokesman told Family Money that it was in contact with both the Office of the Director of Consumer Affairs and the Central Bank.
This scheme - and one other Family Money is aware of involving a major bank - could provide an important income outlet for many pensioners and older people who are living in increasingly valuable properties, but have inadequate pensions or savings. But because such people are so vulnerable and are less likely to have access to independent (and expensive) legal or financial advice, they may not be very well informed about the downsides of equity release schemes.
This particular plan is neither cheap to set up nor to run. Typically, the initial charges will run to more than £2,000 and there is an on-going annual management fee of £750. The company spokesman was not clear about any commissions on insurance or annuities (arranging a life annuity is another option) that might be paid to them by institutions. Certainly, the 9 per cent borrowing rate is 3 per cent higher than average mortgage lending rates and reflects the high risk that the pension fund or life assurance underwriter is putting on the scheme. Warning bells should also be sounding about the need for the property to grow in value by 5 per cent per annum for the entire mathematical formula to work. The conventional lenders, the banks and building societies, have been aware for some time of the large demand for a realistic home equity plan. If a fail-safe plan could have been devised, representing good value for the homeowner and a profit for the bank, it probably would have happened by now. Much still hinges on whether this latest scheme can convince the pension fund managers, who are just as conservative as bankers, of its merits.
Until then, individuals who need to release equity in order to boost their incomes may want to discuss their situation with their bank manager, accountant and solicitor. One solution that has been suggested before in this column usually involves the children of the person, who take out mortgages on either their own or the parent's property, the payments of which may be offset against their future inheritance. The money is then drawn down to provide the parent with an income.
