Question:
My parents are pensioners and own property that is paid off. Apart from 2/3 insurance policies and their monthly pension they do not have any other income. The house is fairly big and they want to do a few renovations to the place, but money is a problem.

How can they go about accessing money from their asset so to speak? I once heard Brian Hirsch spoke about seniors accessing funds against the value of the property; that the value decreases by the amount taken and that they don't have to pay back the loan.

How does it work and do all the banks offer this?

Answer:
A man’s home is his castle — or is it? For many, their home may be the largest asset they own, but this does not make it their most valuable investment. The distinction needs to be made between one’s lifestyle assets, such as your home and car that you 'live with', and one’s lifetime assets, which represent the investments that provide a passive income when you no longer work and supply you with the income you need to 'live off'. If this is the case then the prospect of living off our homes makes little intuitive sense. But with low retirement savings, and people living longer after retirement, some may be left with little choice.

This phenomenon hasn’t gone unnoticed and resulted in some of the financial institutions launching home equity release products. These are commonly referred to as 'reverse mortgages' and although the name conjures up thoughts of a bank becoming the buyer as you collect your monthly dues, unfortunately this is not quite how it works. Much like any credit facility, it can be your greatest ally or feared enemy — it all comes down how you approach and, more importantly, manage the debt.

So how does it work? Well, the first thing to note is that it is only available to persons above the age of 65 where there is no outstanding bond on the property. Essentially, a reverse mortgage is little more than a securitised loan where the capital borrowed is set against the equity of your home. This loan accumulates interest at approximately two percent above the prime lending rate and remains outstanding until a certain date or upon death. Depending on your age, you may access between 10 percent and 40 percent of the equity. In other words, the older you get the more you will be able to access.

As with all financial decisions, there is a current and future impact that should be carefully considered before putting pen to paper. Of course, when it comes to bricks and mortar, the stakes are high and the potential implications far-reaching. Although the current implications may seem obvious, it is the long-term impact that needs careful consideration.

There is much said about the advantages of this strategy but there is another side to this that is often made less obvious. The loan will be called up in the event of you:

• selling your home

• moving (to a retirement village?)

• failing to pay

• getting tenants and moving elsewhere

Mr. Retired owns a bond-free property valued at R2-million. He is 65 years old and therefore qualifies for a loan equaling 10 percent of the property value. To be conservative, let’s assume the long-term average of real prime being 7.63 percent (i.e. the average prime rate after inflation over the past 20 years).

At a financing rate of 9.63 percent, the real loan would effectively double every eight years. Therefore, at age 89, the outstanding loan would now be R1.8-million. The first retort to cover this is to presume that one’s property will also increase in value and therefore offset this growing debt. However, there are two compelling factors that deserve to be highlighted. Firstly, this is merely an assumption and given what we’ve witnessed in recent years, property can experience dramatic loss in value over short periods of time. If this downturn happens to coincide with your loan being called up, the proceeds may not cover the outstanding amount. Furthermore, real long-term property growth has been at a muted 4.3 percent (half of what the financing costs accumulate at) and therefore will lag the growth curve and result in equity being diminished on a continual basis.

As a closing thought, attention should be given to the fact that because this is a lending product, it does not fall within the ambit of the Financial Advisory and Intermediary Act (FAIS) and therefore the agent/salesperson/banker has no compulsion to adhere to the code of conduct relating to sound and unbiased advice. For this reason, it would be prudent to engage with a Certified Financial Planner who will be able to explore the full implications of your specific situation and perhaps guide you in finding a more suitable option.

acsis Limited is an authorised financial services provider. The response to the question covers some of the issues in a general and factual manner and does not constitute advice. It is important to consult with a financial planner who, after an analysis of the individuals’ personal needs, goals and circumstances, will be able to provide comprehensive and appropriate advice.

If you would like acsis to put you in touch with an independent financial planner, click here!

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