Posted: 5th December 2016
Once out in the cold, equity release and other forms of retirement income are becoming increasingly relevant to the retirement discussion.
The demand for such products is growing in stature, and 2015 saw 24% growth in the equity release market alone. This is no coincidence given pension freedoms, but how is it that a product once viewed with some suspicion is now becoming such a core part of the retirement picture?
Pension freedoms should be embraced by both consumers and firms, as it provides both freedom of choice for consumers and a platform for firms’ innovation. But of course, the inherent risks have been clear for some time; potential lack of customer understanding; customers not taking a whole of market view when making decisions; not being aware of the products available to them or not appreciating the enormity of their decision.
Ultimately, retirement provision is one of the most important financial decisions a person will make, and if this decision doesn’t result in a suitable outcome, it can greatly impact on a consumer’s standard of living. Here, we explore why equity release is now becoming a more prominent part of the retirement decision making process.
Why the growth of equity release?
The growing market we see today begins with the baby-boomers. They are now reaching retirement with differing levels of cash investments, predominantly through pensions, but are often asset-rich (due to – typically – 10-fold increases in the value of their homes).
In preparing for retirement, it is becoming evident that many have failed to save sufficiently to provide for their old age, with the baby-boomers being only the tip of the iceberg when compared to the possible issues which will be faced by generations to follow.
Behind the baby boomer generation come others; generations “X and Y”, who value disposable income and ‘instant gratification’ more than ever, will be greatly impacted by the housing crisis and the rising cost of living, and who have not generally grown up to understand the value of advice or the benefits of compound interest accrued when saving earlier in life.
At best, unless early retirement planning becomes part of a consumer’s typical financial services ‘journey’, this issue will continue. At worst – and if the virtues of early saving do continue to go by the wayside – it could be greatly compounded.
With many people set to come to retirement with a limited range of options, releasing equity in one’s home presents a potential solution.
From a troubled past to a successful future
Equity release garnered plenty of bad press in the 1990s which had served to sour consumer perceptions. The industry has worked hard to build in safeguards, adding protections to this inherently high-risk product, such as no-negative-equity guarantees. The product itself can provide a suitable injection to someone’s retirement income if required, and the market has moved to make equity release and related products a more attractive prospect, with interest rates on lifetime mortgages now moving below 5% for the first time ever.
The key conduct risks of equity release that firms must consider are centred on whether:
- The product has been sold in a suitable way to a customer who needs it
- Customers (and often their families) understand the transaction that took place and, importantly, how the product works (for example, around compound interest and its impact on what a consumer will be able to leave their family in their will)
- Pre-Retail Distribution Review (RDR) concerns around incentivisation ring true for equity release given the product is not subject to RDR commission rules
- Intermediaries are performing compliantly, including undertaking effective oversight in the areas above – both parties have a duty of care for suitability, and so both must ensure their culture and conduct around incentives, governance, oversight and compliance monitoring are conducive to good customer outcomes
When entering into a third party relationship, lenders should conduct a proper assessment of the intermediary. Any new relationships should include a rounded due diligence assessment, where both firms can ensure their objectives are aligned to the business and customer outcomes they want to deliver.
If this was not part of an initial assessment of your intermediaries, then your firm should examine the existing agreement to ensure that you are able to ‘look under the bonnet’ and make changes if necessary.
Once the relationship begins and the intermediary is submitting business, both sides need to consider what assurance and reporting is put in place to ensure that the original intent is being delivered on.
Many firms are actively considering how this works in practice, but it is likely to include some form of regular assessment or audit of a sample of the intermediaries’ business, plus trend analysis on some agreed key performance or risk indicators, such as:
- Adviser and firm quality – training and competency, quality monitoring arrangements, robust suitability recommendations and views on broader customer outcomes beyond simply suitability
- Adviser performance – linked to incentivisation and remuneration
- The intermediary’s complaints log
Taken together, this should provide a valuable picture of the agreement, the suitability of advice being given and the fairness of customer outcomes being delivered.
A legitimate retirement solution
There are arguably two issues at play here.
Firstly, equity release is designed for a consumer with few options, yet it needn’t – and shouldn’t – be stigmatised as it once was. Suitability and customer understanding are absolutely central to getting conduct right in this area – and if firms can determine suitability and establish understanding using a reliable methodology (which can be evidenced), then equity release can be both commercially successful and a legitimate retirement solution for the right consumers.
The second issue – with retirement planning now a significant point of discussion – is how the industry can best communicate the benefits to consumers of preparing for retirement earlier in life. Bringing this discussion more into the open is likely to provide the best long-term outcomes for the retirees of tomorrow.
However, it is clear that equity release – at one time a product out in the cold – is now firmly part of the suite of retirement planning options available to consumers, creating commercial opportunities for firms.