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Rising equity release rates raise concerns around rolled-up debt – analysis

  • 21/10/2022
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Rising equity release rates raise concerns around rolled-up debt  – analysis
The increase in equity release pricing has raised concerns amongst brokers about rolling-up debt hitting the property value faster, meaning borrowers could accrue more debt at a faster rate.

The cost of equity release loans is based on the yields of long-term UK government bonds or gilts.


What are gilts and why do they matter to equity release?

Gilts are a type of government-issued bond, where the government borrows money from investors and promises to repay it over a set period of time and pays a fixed yearly amount as a fee. The yield of a gilt is how much the investor gets.

Following the mini Budget, gilt yields, which is the interest rate at which investors will lend to the government, rose significantly.

Martin Wade, director at Access Equity Release, said as yields increased dramatically many funders in the equity release market had more options to secure a return on their money, so in order to keep funders attracted to equity release, pricing has increased.

According to Chatham Financial Services, 15-year gilt stands at 4.178 per cent, up from 3.59 per cent on 20 September. It is also an increase from 1.33 per cent on 20 October last year.

Andy Wilson, director of Andy Wilson Financial Services, said that instability in gilt prices, especially the large rises, had had a significant impact on equity release rates.

“The higher the gilt rate, the higher the equity release lifetime mortgage rates go,” he said.

He said at the start of the year a 15-year gilt rate was around 1.14 per cent and had steadily increased during the year to hit a high of 4.8 per cent earlier month.

Wilson said that this had led lenders to reprice their product ranges and some lenders had to temporarily pause new business.


What is the state of current equity release pricing?

According to Moneyfacts, the average rate for lifetime equity release combined deal is 7.54 per cent, which is up from 6.02 per cent in September and 4.17 per cent in the same period last year.

For a fixed lifetime equity release deal, the average rate is 7.55 per cent, an increase from 6.03 per cent in September and 4.19 per cent in October.

Average rates for variable lifetime equity release currently stand at 5.6 per cent, in line with figures from September, but up from three per cent in the same period last year.


How about equity release product choice?

Product choice has also fallen, with all fixed and variable deals available contracting by 70 from September to October to 523 products. This compares to October last year when total deals came to 812.

Samantha Bickford, mortgage and equity release specialist at Clarity Wealth Management, said that it was a “difficult time” for those looking at later life as rates were closer to six to 6.5 per cent, which is when it would typically remortgage clients off.

She continued: “Clients come to us with a problem, and we provide a solution. The rate is not always the most important of factors with these cases as they need the issue sorted regardless.

“The issue of lenders withdrawing from the market has led to limited choice and options for clients than we are used to, however there are still lenders with products available.”

She added: “If homeowners cannot heat their homes or afford a warm meal due to fear of the cost of living crisis, than using the cash tied up in their property may offer a solution to that problem they could not otherwise solve.”


What are the consequences of higher pricing?

Wilson said that a “knock-on effect” of higher interest rates was that lenders were at “greater risk” of rolled-up debt eventually hitting the property value.

With these products, consumers elect not to make any monthly repayments of interest, instead the interest accrues and compounds on the amount you release, so borrowers pay interest on interest.

He explained that an interest rate of eight per cent means a loan could double in size in nine years and quadruple in 18 years. Therefore, if a borrower lived for 27 years their debt would have grown eightfold.

Wilson said that if the debt caught up with the property value, then a no-negative equity guarantee comes into play so the lender can’t charge more interest. This has led to some lenders reducing the maximum loan to value proportion, with Wilson noting that other lenders “will surely follow”.

Sources also suggested the possibility that existing customers whose products have variable or gilt-linked early repayments charges (ERC) could see these charges reduced or removed entirely if they choose to end their loan early, although this depends on the specific product and market conditions at the time the mortgage was taken out.

Lewis Shaw, founder and mortgage expert at Shaw Financial Services, agreed that rising equity release pricing and compound interest means that “equity is eaten up faster than it would have been”.

“Anyone considering later-life lending needs to get expert advice to ensure they fully understand the implications. As I always say, equity release should be entered into in the same way the bible talks about marriage; reverently, discreetly, advisedly, soberly, and in the fear of God,” he said.


What advice would brokers give to clients?

Aaron Strutt, product and communications director at Trinity Financial, said that lifetime mortgages were being “promoted as solution to lack of income during the cost of living crisis”, but it was crucial that consumers understood the ramifications of rolled up interest.

He added: “It is crucial that borrowers fully understand the impact of the rolled-up interest. These products may still be the only option or the most suitable route for a client, but people need to go into these transactions with a full understanding of the implications of the current rates.”

Dan Osman, head of later life lending at UK Moneyman Limited, said that some who had been considering equity release as a “matter of aspirational borrowing” were taking a “wait and see approach”, and that this could continue for some time.

He explained: “With lifetime mortgage cases of aspirational borrowing, we are recommending waiting, using alternative solutions or a drawdown approach, where appropriate, if the client is unwilling or unable to wait to meet their initial objectives.

“Not only does this minimise the interest burden but it leaves open the possibility of taking funds from drawdown at potentially lower rates in the future. A positive side effect of minimising the initial lump sum is that, in the event of a significant drop in future interest rates, a re-broke is likely to become more viable if in the best interests of the clients.”

He said that its primary advice would be “caution at the moment”, and where possible to look at retirement interest-only and other interest serviced routes as they were more “cost effective to re-broke at a later stage if and when rates drop”.

Wilson agreed that it would be “prudent” for advisers to take a wait and see approach before moving forward.

“However, we simply cannot predict what is going to happen with rates, and it seems that many are biting the bullet of higher costs and will need to make a move now, whether they be moving home, repaying an existing mortgage, gifting to family members for house deposits or simply making use of the released money to supplement income.

“Care must be taken, as always, to carefully explain the effect of rolling-up interest over a potentially long lifetime, and their guaranteed right to pay the interest monthly,” he said.

Wilson said that whether reversal of the majority of the mini Budget could allow gilt rates to fall and lead to lower lifetime mortgage pricing “remains to be seen”.

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