The pitfalls of equity release

September 22nd, 2008

The consumer organisation Which? has been looking into equity release schemes for the elderly of the type trailed so heavily on daytime TV.

Equity release allows retired homeowners to obtain money from their property without having to move out. People can be given a lump sum or regular payments in return for taking out a mortgage on their home, which does not have to be repaid until they die or sell their property. Interest is added to the amount owed until such time as a payment is made.

Alternatively, people who own their home outright can sell a portion of their property to a home reversion company. But Which? is warning that problems could arise if the borrower’s circumstances change.

In its conclusions, the consumer group says pensioners should only consider unlocking equity from their home as a last resort

Equity release schemes can be expensive, inflexible and leave people with little equity, according to Which? And any money people released from their property could also affect the level of means-tested benefits they are entitled to.

An individual who wanted to move into sheltered housing or a retirement home may have to pay back some of their loan earlier than expected. This could potentially leave them with too little equity to buy a new property, Which? added.

Equity release schemes approved by the Safe Home Income Plan (Ship) can be transferred to a new property. However, this does not always cover sheltered housing or retirement homes.

Which? is urging people to consider other options before turning to equity release. These include downsizing to a cheaper property, using their existing savings, or even borrowing money from family that could be paid back when their home is eventually sold.

The report says ‘equity release might seem like the solution for any pensioners struggling to make ends meet this winter since these schemes provide income while enabling you to stay in your own home.’

‘However, if your circumstances change you might not have enough money remaining to fund alternative accommodation, and money received through equity release may seriously alter the amount of benefits you are able to collect.’

I would echo the main recommendations of the Which? report. Anyone considering equity release should do so cautiously and only after exhausting other options. In all cases, independent professional advice should always be sought.

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24 hours of turmoil and turbulence

September 15th, 2008

The last 24 hours have seen the world’s financial markets in a turmoil last seen in 1929. After more than a year of the credit crunch and financial woes the proverbial has hit the fan.

The investments bank Lehman Brothers’ bankruptcy has dealt the money markets a crippling blow, incapacitating them for a considerable time to come. Fears about other banks’ exposures to Lehman and renewed uncertainty as to where the crisis may strike next will freeze the wholesale markets up again. The crunch is back with a vengeance.

The collapse of Lehman Brothers into bankruptcy protection is the biggest corporate debt default in history and, in the complex interwoven world of modern banking, no one properly understands where the risks lie.

Unlike with Northern Rock last year nobody in the UK stands to lose their life savings. Lehman Brothers is an investment bank and so specialises in large and complex deals and investments.

Despite this, Lehman’s collapse will still be felt by us here in the UK. Most of our banks and pension funds have dealings with Lehman, or with firms like hedge funds that traded extensively with Lehman.

Unwinding Lehman’s complex deals could take weeks or months. During that time the global financial system will be in limbo. Most banks won’t know for sure how much they are exposed to Lehman, and will have difficulty freeing up the money in those deals.

This in turn is likely to intensify the credit crunch, with potentially dire consequences for businesses and consumers.

What little confidence the markets had restored in recent months has been knocked down again. According to experts, Lehman has $150bn of debt outstanding. In comparison, US telecoms group WorldCom, which was the largest debt default until now, had $23bn to $30bn when it went bankrupt in 2002.

The holders of that debt, therefore, are facing huge potential losses with untold ramifications of their own.

Furthermore, Lehman’s collapse will flood the market with assets for which there are very few buyers anyway. The banks are already having to writedown their positions on a quarterly basis, often because the valuation of these assets is declining.

Central banks know it will be touch and go for many other financial institutions. Hence the $70bn liquidity pool provided by ten of the biggest investment banks for any one of them that needs to tap it.

This also explains the extra £5bn of liquidity the Bank of England is providing the UK money markets.

At the very least, the collapse of Lehman is potentially as costly as the $200bn initial estimate of the US sub-prime mortgage fall out. As the complex web of deals and lending is worked out, financial institutions here in the UK could be even more heavily effected. Because of that there’s every reason to be worried.

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One step closer to better regulation of PPI

September 12th, 2008

Good news in the fight against unfair Payment Protection Insurance (PPI) charges. The Financial Ombudsman Service (FOS) has called on regulators to take more action to stop the mis-selling of PPI.

This year the FOS has been deluged with complaints about mis-sold PPI policies, and is upholding the majority of them. The FOS is reported to have ‘very severe concerns’ that complainants are being fobbed off by banks.

The FOS is currently receiving more than 500 complaints a week (!) about PPI policies, which are typically sold by banks when they make a loan to a customer. Most people will know that the insurance is supposed to cover someone in the event that they fall ill or lose their job and cannot repay a loan, credit card bill, or mortgage.

However, consumer organisations have criticised the insurance as useless and little more than a profitable protection racket for the banking industry. Which? has reported that 1.3 million people bought PPI when taking out a credit card, under the mistaken belief that it was compulsory or would improve their chances of having their application approved.

A spokesman for the British Bankers’ Association (BBA) has said action by the FSA is ‘unnecessary’. But that is hardly unexpected considering how much money they are making out of it.

The FOS is particularly worried that banks and other organisations in the financial services industry are failing to deal with initial PPI complaints properly.

Citizens Advice, which first lodged a formal ‘super complaint’ about PPI three years ago, said it was not surprised by the experience of the FOS.

The FOS has already had extensive discussions with the banking industry, but is worried that organisations that sell PPI are ‘not getting the message’. The FSA has already fined or censured 18 firms or individuals for mis-selling the insurance.

The Ombudsman has not asked for specific measures to be taken by the FSA. But its call is likely to prompt further action by the regulator, which has already been undertaking a long investigation into the way PPI is sold.

The investigation, which is now in its ‘third phase’, will come to its conclusions in the next few months and may lead to further restrictions on the way PPI is sold.

Earlier this year the regulator introduced tougher rules on how PPI could be sold and in June the Competition Commission concluded that banks and credit card companies were overcharging their PPI customers by a whopping £1.4bn a year.

The FSA blamed a lack of competition at the point of sale when people took out a loan, and suggested that selling PPI at the same time as approving a loan might be banned.

The commission will make its final recommendations in November or December. There is real hope that the PPI mess will now be sorted out but the banks will continue to protest their innocence with one hand and rake in the cash with the other until then.

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