RIO mortgages cheaper than traditional equity release
Equity release products are being offered at record low interest rates to tempt older borrowers, according to new research from Defaqto.
But the financial information provider worked out that, despite the lower rate, Retirement Interest Only mortgages may be a better alternative to lifetime mortgages for those looking to borrow against their home in later life.
That’s because they work out cheaper over the long term.
What is equity release?
Traditional equity release is also called a lifetime mortgage. The mortgage is secured against your property and is paid off from the sale of that property when the you die or move into long-term care.
Lifetime mortgages are only available to homeowners aged 55 and over. They help borrowers to access the value of their home without having to move and provide them with a cash lump sum. There are no monthly repayments to make.
What is a RIO mortgage?
RIO mortgages are similar to standard mortgages in that a loan is taken out against a property and the borrower must make monthly repayments. These are on an interest-only basis to keep costs lower than with a standard repayment deal.
Borrowers have to undergo affordability tests similar to a standard mortgage and so need to have a secure income, such as a pension or annuity. They are only available to those aged 55 and over who own their homes outright and can afford the repayments.
Which is cheaper?
In the past, equity release products have been criticised for their high interest rates, said Defaqto, but rates have fallen to record lows. However, this is a complicated product with lifelong consequences and should not be entered into lightly.
Both RIO and lifetime mortgage rates have fallen but, because borrowers repay the interest on a RIO mortgage as they go along, the original sum borrowed doesn’t increase. If they borrow £50,000 at age 65 they owe the same debt in 20 years, although they would have paid £31,900 in monthly interest payments based on an interest rate of 3.19%, according to Defaqto.
With a lifetime mortgage the borrower doesn’t have to make monthly interest payments but interest is still being charged. In fact, Defaqto found that the £50,000 orginally borrowed would have risen to over £90,130 in 20 years, meaning the loan actually cost £41,130, based on a 2.99% rate.
Over the long-term, the RIO product costs less.
The decision to take an equity release product – whether it’s a lifetime mortgage or a RIO – is a complex one and it requires professional advice.
Brian Brown, spokesperson for 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.
“Releasing equity from your home is a big decision with ramifications for the rest of your life; you should take advice from an independent and qualified professional before making any decisions.”