Customers using their pension freedom to drawdown money before they retire to pay off their mortgage early could find it more costly in the long run, national financial adviser LEBC Group says.
However, many people are considering doing exactly that and this is because their lender has warned them that their existing mortgage cannot be extended beyond their state retirement age.
Kay Ingram, divisional director at LEBC, outlines four key points to consider when deciding whether to use pension scheme money to pay off your mortgage early:
- If you use your pension fund to pay off your mortgage, what impact will it have on your long term income?
- If you take more than the 25 per cent tax free lump sum from your pension to do this, your future pension funding will be restricted to contributions of no more than £10,000 per annum, including any employer contributions, so your ability to build your pension fund up with tax relief will be limited.
- If you have a defined benefit pension you cannot take funds out of it flexibly and would have to transfer it to a drawdown plan to do so. This could mean giving up valuable guaranteed income for life. If this means that all your pension income will then depend on investment returns and future interest rates, can you afford to bear the risk of having a less stable income later?
- Some pensions offer other guarantees such as a guaranteed level of income or fund value but usually only if you take the funds from the pension at a set retirement date. Accessing the fund early could lose these guarantees.
Ingram says: “If a lender is pushing for early repayments there could be other options such as seeking a new lender or renegotiation of your existing loan. While many lenders are writing to borrowers asking how they can repay the loan, they may be willing to extend it or change the basis of the loan, especially if you can show you can afford it. While some lenders have fixed policies such as no mortgages beyond age 70, others are more flexible and an independent mortgage adviser will be able to shop around the whole market for you.”
Ingram’s final warning is that taking more than just the 25 per cent cash sum which is tax free means that any sum over this will be taxed at the individual’s highest marginal rate of income tax, therefore necessitating spending a lot of your pension fund in tax to clear a much smaller debt.
