Homeowners can pay £10,000 more for equity release than RIO loans

Homeowners can pay £10,000 more for equity release than RIO loans

 

Analysis by financial ratings firm Defaqto, which compared the cost of borrowing £50,000 using equity release and a RIO loan over 20 years, found RIO customers would owe almost £10,000 less.

Furthermore, Defaqto used a lower interest rate of 2.99 per cent for the equity release loan in its example, compared to 3.19 per cent interest rate for the RIO mortgage.

But historically-low interest rates, said Defaqto, are tempting borrowers to take equity release — a more widely known type of finance for older borrowers — instead of looking to cheaper options such as downsizing or taking a RIO deal.

The lowest equity release interest rate is currently 2.84 per cent from more2life, at age 65, according to Defaqto. And in the last 18 months rates have plummeted. The average interest rate offered a year and a half ago was 5.4 per cent for customers aged 65, compared to 4.55 per cent today. The lowest RIO rate, offered by Marsden Building Society, is 2.79 per cent.

Brian Brown, consumer finance expert at Defaqto, said: “Equity release has been criticised for being expensive and inflexible in the past, but with historically low rates and portable loans they are a much more viable option for some borrowers.

“Downsizing to a smaller or cheaper property may be a better option if you are able to move. That way you can free up cash from the sale to enjoy without paying interest. This, though, is not always a practical option and many people simply do not want to leave a home they lived in for many years.”

RIO, said Brown, may be a better option than equity release for borrowers who have an income. RIO lenders require borrowers to make monthly interest payments unlike equity release where homeowners can choose to add their monthly interest payments to the debt. This means, however, borrowers must pass an affordability test and their home may be at risk of repossession if they cannot keep up their repayments.

Martin Wade, director, Access Equity Release, said: “Not enough people take advantage of paying the interest on an equity release loan, a feature which is widely available these days. Canada Life, for example, allows you to pay daily if you want, and if your children are repaying interest, they can do so from their own bank account.” Wade said 10 per cent annual overpayments were also a common feature of modern equity release loans.

Despite being a cheaper option for those homeowners who can afford a RIO, take-up has been low.

The Financial Conduct Authority revealed that only 660 RIO deals had been advanced as of July 2019 after the product launched in March 2018. Brokers argue that while the interest rates are competitive, the affordability tests applied by lenders are too strict to pass. For joint borrowers to be accepted for a loan, each applicant must be able to afford it on their own.

Wade added: “The much touted solution of RIOs was supposed to provide a lifeline to those in later life who required mortgage based borrowing.  These have flopped spectacularly with so few sold.  With hindsight it is easy to see why. Older borrowers typically do not have the affordability to meet strict requirements of income multiples.  Their lives have moved on, their prime earning years are in the past and as such, whilst they may very well be able to service an interest payment each month, they do not meet the affordability criteria required by lenders.

“Equity release products can offer a solution as they do not have the income criteria requirement but, crucially, allow borrowers to service the interest if they choose.”

David Hollingworth, director at L&C Mortgages, said: “RIO mortgages add to the range of options open to older borrowers and will appeal to those with a good level of steady income who want access to a more traditional mortgage structure where they can pay interest each month until they sell or go into long term care. As well as giving access to equity in the home it can also offer a different solution to those dealing with an interest-only mortgage that won’t be fully repaid by the original repayment vehicle at the end of the term.

“The RIO market is still in the relatively early stages of development but is one that is likely to see gradual growth as consumer and adviser awareness builds over time. It should prove a valuable option alongside the low rates now on offer in the lifetime mortgage market.”