Royal London, a mutual provider of pensions and investments, said retirement interest-only (RIO) mortgages might appear to be the answer for the many borrowers coming to the end of their interest-only mortgage with no way of paying the balance.
But it is concerned that without decent-sized pension pots, few borrowers could use them to solve the problem of paying off interest-only mortgages.
RIOs are aimed at over 55s and are similar to a standard interest-only mortgage except the ‘borrower’ repays the loan either when they die, go into long term care or sell their home. During the term of mortgage, borrowers will need to pay the interest on the loan.
Some of the first RIOs were launched on the market last summer just after rule changes were introduced by the Financial Conduct Authority (FCA) which meant the mortgages could be properly regulated. Since then a number of lenders have launched RIOs to the market.
But the problem is, according to Royal London, evidence shows people do not have enough saved into their pensions to meet the ongoing interest repayments required to service a RIO in retirement.
Pension saving and joint borrower concerns
According to official figures, 12 million people are not saving enough even to cover basic living costs when they retire, said Royal London.
It said very few would be able to afford cost of servicing a mortgage debt on top of this.
Indeed, RIO lenders have very strict lending requirements which take into account the amount of pension income for all the borrowers.
Problems can occur if a home is jointly-owned and there is one borrower who earns much more than the other. In the event of the higher earner’s death, the other owner might struggle to afford repayments, especially if the higher earner’s pension stops or only pays a proportion to the spouse.
As such, Royal London is urging couples to find out what will happen to their pension income when one partner dies so they have a realistic idea of how affordable an in-retirement mortgage would be.
Interest-only borrowers
Becky O’Connor, personal finance specialist at Royal London, thinks the introduction of RIOs may give false hope to hundreds of thousands of borrowers with interest-only loans they can’t pay off at the end of the term.
There were 550,000 interest-only mortgage borrowers over the age of 55 in December 2018, according to UK Finance.
Meanwhile, other figures from the FCA suggested around 10% of interest-only loans were not backed up with any repayment plan and 50% were likely to have a shortfall.
O’Connor said: “These loans might seem like the perfect solution, but in practice, because of affordability criteria, they will not be the answer for most people.
“Generally speaking, pensions are not designed to cover housing costs.”
She added: “With many people not saving enough in a pension even to cover basic living costs in retirement, many borrowers are likely to have an application for a RIO mortgage rejected, or be offered a much lower amount than their shortfall.”
“It’s likely that uptake of RIOs will therefore be reserved for those endowed with the most generous pensions, or income from other sources such as property or work.”
RIO alternatives
Borrowers are urged to get advice before embarking on any kind of borrowing in retirement or later life. Options open to borrowers as they face retirement also include downsizing or taking out equity release, something which should also be discussed with a regulated adviser before proceeding with.
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