If someone in your family is fortunate enough to own their home, it’s likely that it makes up the majority of their overall net worth. They may be asset rich due to the value of the home, but cash poor as they don’t have much money freely available to spend.
A parent or grandparent may want to help their younger relatives with a leg-up onto the property ladder. Many people have benefited from a significant uplift in property values over the past 50 years and they may want to share some of that with their children. If they don’t have the cash sitting around they may feel they are unable to help.
One potential solution is the Retirement Interest Only (RIO) mortgage. This is a relatively new product that was authorised by the financial regulator in the UK in 2018.
A RIO allows people who are aged over 55 to take out an interest-only mortgage against their property. This enables them to release some cash whilst at the same time allowing them to remain in their home. The benefit is that they can then assist their family members whilst also retaining their lifestyle. There are also potential inheritance tax benefits.
In order to get a RIO the owners of the property need to pass some affordability criteria based on their income and pension. The maximum amount that can be borrowed is generally around 50% of the value of the house. The interest on the RIO is paid each month. The actual loan amount of the RIO will then be paid off when the house is sold, or if the funds are repaid to the bank.
The concept of releasing equity from your home is not a new one. There have been a number of well publicized scandals from the traditional equity release operators. And there is a perception amongst many people that equity release is a loan of last resort when you’ve run out of other options.
The RIO is different to equity release and is a cost effective way to unlock funds. There are three three key differences to equity release:
It is more affordable. The interest rates are generally much lower for RIOs compared to Equity Release products (known as “Lifetime Mortgages”). The average equity release product was around 4.5% in 2020 compared to 3.4% for RIOs.
There is no rolled-up interest with a RIO. This is where equity release lenders make significant amounts of money, as you don’t need to pay the interest each month on an equity release loan. Instead it just “rolls-up” each month. This means that it has the potential to snowball and you get interest, on interest, on interest, so the loan gets bigger and bigger each month. With a RIO you pay the interest each month so the loan never gets any bigger than it was on day one.
Flexibility. You can take out a RIO for as long as you wish whether that is 2 years, 5 years or 10+ years. It depends on what is right for you. With a traditional equity release mortgage you are generally locked in until you either sell the property. There can be significant exit penalties if you try and exit the loan early.
How can Tembo save you money?
If we compare the current rates for a £50,000 withdrawal of funds for 10 years. For equity release the total interest charged would be £27,500 over the 10 year period. Whilst for a RIO it would be £15,200, making it more than 40% cheaper than an equity release product. A RIO could therefore be £12,300 cheaper.
Interest paid over 5 year fixed term
Over the next five years Clare will pay the same monthly amount of £991. But at the end of the five years, she will have only paid £18,500 in interest, including the interest on her family’s interest only mortgage. That is a pure saving in interest payments of £11,500 compared to the best alternative.
Having paid down some mortgage and hopefully with a little increase in the value of her home Clare could then opt to re-mortgage. She might also decide to return the gift of £32,500 from her family too. But by using Tembo, Clare will own £11,500 more of her home than if she went with her bank alone.
More money for Clare, less money for the bank.