While most parts of the property market have gone into a general slump, there is one area that still seems to be buoyant, equity release.
During the course of the next 12 months, there could well be an increase of 10 per cent in the numbers of pensioners getting access to cash by releasing the equity in their homes, according to one of the market leaders, Norwich Union. Lending via equity release is seen as being far less risky than most normal mortgage lending, so, even in a credit crunch, the figures stack up well for lenders.
But while many people will be satisfied with the results of taking out one of these plans, there are some problems. The Financial Ombudsman Service dealt with 42 complaints last year, a useful indication of the kind of problems that could present themselves in far greater numbers in years to come. A big increase is expected in the number of people taking out these products, but because they can easily run for 20 or 30 years, we have limited experience so far of how well they work from start to finish.
Two main categories of complaint are being made to the ombudsman.
First, the children of people who took out schemes complain, alleging that the equity release was mis-sold as it turned out to be far more expensive (and left a much smaller inheritance) than if the parents had borrowed from their family.
Secondly, there are complaints that people were encouraged to use the cash released by the scheme to invest. On the cases handled so far, the ombudsman is far more likely to find in favour of complainants in the second category.
Children
A son was shocked to discover that his elderly parents had raised £40,000 in cash through an equity release scheme, charged at 8 per cent a year compound interest, on their £200,000 home. Fees and interest cost them another £20,000 even though the scheme ran for only five years, as they both died within that period. He complained to the ombudsman (as beneficiaries are allowed to do), who found that no mis-selling had taken place.
The parents had taken legal advice and the financial adviser who sold the scheme had asked them all the questions he should have (including: did they not want to downsize instead; did they need to leave a legacy to someone; did they have dependants did they have other sources of income, including state benefits or possible windfalls?). The son felt that he could have lent his parents the money for free had they discussed it with him - or that they could have got a straightforward loan, which could have cost them just half this sum.
In most cases of this type, the ombudsman will find in favour of the financial institution. The crucial issue is whether the parents understood the risks involved and knew what they were doing. The main providers all insist that customers go to see a lawyer who can explain the risks to them. It will be difficult to prove mis-selling if the parents have been to see a lawyer.
However, former ombudsman Adam Samuel believes there is a 'real problem' lurking here. 'Lawyers regard their job as advising on the conveyancing aspects of the transaction, not on the merits of the product,' he says. 'Often, the solicitors belong to a panel set up by the providers, which removes the vital element of objectivity.'
Norwich Union and Stonehaven, another market leader, are fairly typical in not only insisting that clients take legal advice but also in encouraging parents to involve children in the decision. 'In well in excess of 95 per cent of cases, the children are involved,' says Jayne Almond, chief executive of Stonehaven. 'And very often, it is the children who encourage the parents to take out equity release.'
Investments
Mr G was seven years older than his wife and worried about whether she would have enough to live on when he died. Their financial adviser persuaded them to take £50,000 in equity release, chargeable at 8 per cent a year, and to invest the money in a with-profits fund. After Mr G died, Mrs G realised that she was getting far more income than she had expected or needed and eventually complained to the product provider and, when they rejected her complaint, took her case to the ombudsman. Her claim was accepted and she received compensation.
The adviser had made errors in calculations by underestimating the pension Mrs G would have if Mr G died; had set the scheme up while Mr G was alive, when it would have been more cost-effective if it had only begun on his death; and, worst of all, had put the couple in a situation in which they had to earn an improbable 10 per cent or so a year on their investment to cover the costs of the 8 per cent interest charge and make a small return.
Two other problem areas are sales to people as young as 55 and unregulated 'sale and lease-back' schemes. These pages have warned about the first issue in the past and is concerned that people of this age could vastly limit their options for the future if they get involved in equity release too young.
Sale and lease-back can seem similar to equity release but usually involves selling a home in return for a short-term tenancy agreement. There have been scandalous cases of people entering such schemes subsequently being evicted.
While equity release is regulated (meaning consumers may get compensation), sale and lease-back is not. In the Budget, the Chancellor expressed a desire to regulate this market and this could happen next year. Entering into a scheme of this type now is highly inadvisable.
If you are unsure if a scheme is sale and lease-back or a kind of equity release, you should ask the adviser if the deal will be covered by the Financial Services Authority.
What could it cost?
In a fairly typical deal, Fred Bloggs, aged 65, takes out a £44,000 equity release deal on his £200,000 home, a 22 per cent of its value. Like 90 per cent of people going for equity release, he opts for a 'lifetime mortgage' - that is, a loan just like a mortgage except that the interest is 'rolled up' and added to the debt, rather than being paid each month.
He goes to his preferred ER company, which is offering an interest rate on the loan that is fixed permanently at 5.9 per cent. (If he wanted to borrow a higher proportion of the value of his home, he would pay a higher rate - 6.3 per cent fixed if he borrows 25 per cent of the property's value, for example.) He pays fees of about £1,100 in total - completion, valuation and legal. When he dies at 84, the total debt has grown to £136,639 - that is the £44,000 borrowed and then £92,639 in rolled-up interest.
If, by contrast, his son had agreed to take out a normal interest-only mortgage of £44,000 pegged at 5.9 per cent in order to give that sum to his father while paying the interest himself then payments would have been about £49,000. Interest payments are lower this way because interest is paid off each month rather than being left to mount up.
NOTE: This article is for reference only and should not be taken as financial advice. References and figures may not suit your specific situation or be current. You should seek professional qualified advice before making any financial decisions.
If you think you or a loved one has been mis-sold equity release contact Claimline Legal UK on 0800 779 7457 or go to www.missoldequityrelease.co.uk
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