Debt consolidation on a retirement mortgage, is it right for you?
I’m retired, have a mortgage, unsecured debts and my costs are increasing: Should I consolidate my debts into my mortgage to reduce my monthly outgoings?
This is becoming more of a frequent question and as always, it depends! There are reasons for and against debt consolidating with a mortgage, particularly as a retired borrower so read on to see how these might impact you.
First of all – what is debt consolidation?
Debt consolidation is a way of arranging a new mortgage, where you ask the lender for sufficient funds to pay off your old lender, but also extra funds to pay off some, or all, of your unsecured debts.
Why is this happening more frequently now?
Spikes in interest rates and living costs have caused some clients with previously unworrying debt levels to rely on further debt to financially survive. In extreme instances, these customers are now staring down the barrel of missing mortgage payments unless they change their finances.
What are the pros and cons of debt consolidation?
-Overall interest: The first downside to consider is overall cost. If you have unsecured debts, they are generally repaid over a short term. A loan is generally repaid over a short term of say 3-5 years, whereas by comparison, you may pay interest on a mortgage for tens of years. Even though the interest rate on a mortgage is almost always cheaper than a loan, because you could pay interest on it for many more years, the interest you pay overall is likely to be more on a mortgage.
-Reducing equity: The very fact you are increasing the mortgage has a downside. You are decreasing equity in your property. This could leave you at greater risk of negative equity in the event of repossession or sale. However the nature of retirement mortgages are that they tend to be at a lower loan to value (i.e. borrowing a smaller amount of the property value than your average borrower) so you are already at lower risk of negative equity than your average borrower. That said, you are still increasing the mortgage and increasing the risk.
-Inheritance: As with the above example, if your mortgage goes up, your equity goes down. This would reduce the amount of equity that could go to your next of kin in the event of death.
-Increasing risk to your credit score: If you miss a payment on an unsecured debt, the effect on your credit report is typically less significant than if you missed a mortgage payment. However, the nature of debt consolidation is that you overall outgoings are typically reducing. This also reduces the risk of missing payments to begin with anyway.
-Cashflow: This is the primary driver for most people completing debt consolidation. By rolling the unsecured debt into the mortgage, particularly if it is interest only, will be putting the debt on a lower interest rate and reduce the monthly cost.
-Reducing overall interest: This is a fairly rare one, but perhaps underutilised. Some lenders allow you to set a different mortgage term for the ‘extra’ money you are borrowing to the main mortgage you are refinancing. Lets say your existing mortgage is £100,000 on 25 years and you have a £20k loan on a 5 year term. You could raise £120,000 to pay off both the mortgage and the loan, however you could put the £20,000 which paid off the loan on a 5 year term. This could have the advantage of the debt being repaid over the same term, but on a lower mortgage rate than a higher loan rate.
Why might I not be able to consolidate my debts with a retirement mortgage?
-Affordability: you may find you are not able to borrow the amount needed to cover your existing mortgage and the unsecured debts. Though this is where specialist advice is needed, specialist lenders can consider lending up to 7 times income, despite what you may have been told elsewhere. There are however types of mortgages that do not rely on affordability such as a lifetime mortgages.
-Debt consolidation limits: Many lenders have limits on how much debt you can consolidate. If the debt you need to consolidate is above this they won’t agree the case, so you need to make sure the correct lender is used.
-Part debt consolidation: If you only consolidate some of your debts, the lender will still factor in the cost of the debts remaining. This in turn may stop you borrowing the amount you need. Sometimes, the only way to get around this is to consolidate all of the debt.
-Loan to value: If you seek out a ‘retirement interest only mortgage’ in order to debt consolidate you may find you are faced with being able to borrow a maximum of 75% of the property value. Other mortgage types could offer a higher loan to value, notably with cheaper rates, fees and payments, so never restrict yourself to looking at just “RIO” mortgages.
-Mortgage company advice restrictions: Approaching some lenders directly for a mortgage, where they also provide you the advice, or even using mortgage brokers that work under certain ‘networks’ sometimes have restrictions on what they are allowed to advise and arrange; totally separate to the lenders criteria. Examples of this would be not allowing debt consolidation unless the debts ere originally accrued for certain purposes (such as home improvements). This is a risk based approach to mortgage advice, where the compliance department don’t want to expose themselves to potentially being sued for mis-advice if the pros and cons of debt consolidation are not discussed, recorded and agreed robustly. Some of these mortgage networks are amongst the largest in the UK meaning that a large proportion of independent mortgage advisers in the UK are not allowed to arrange debt consolidation mortgages that lenders would in fact allow.
What is an example of where debt consolidation makes sense:
A client of ours was coming to the end of their mortgage term, needing to refinance to a new lender to seek a longer term. They were also currently facing high unsecured debt payments and beginning to find the payments difficult to manage. The debts were accrued as a result of refurbishing their buy to let properties and due to the costs of materials increasing so much, the costs of doing so increasing far beyond what they’d initially budgeted.
The clients property is worth £750k. The mortgage outstanding is £100k and they have £45k of unsecured debts.
We discussed the overall interest payable and monthly payments of consolidating their debt vs not consolidating them.
Quite simply, the clients felt that could not afford their monthly payments going forward if they were not to consolidate the debts, so felt the overall interest was far less of a concern. Particularly given their large equity in the property, the fact that hey have always planned to downsize to repay the debt, have no dependents to leave the property to and due to ill health and early retirement has left them wanting to get the most out of their retired years.
Still have questions? Get in touch to see how we can help you.