Home Equity Release Plans: Revisiting History
It is hard these days to pick up a newspaper, or watch a satellite TV programme without seeing an advertisement for a home equity release product. However, the financial services industry has some previous experience when it comes to home equity release plans – and it has not been a good experience. In this article we look at the current home equity release plans on the market, and also revisit history, and see what lessons might be learnt.
Home equity release plans are very well marketed these days. They are aimed at elderly home owners who are asset rich (the asset being their mortgage free property) but cash poor. The plan works by the financial organisation “purchasing” a property from you, or at least a great deal of the equity in your property. You in return receive a tax free cash sum together with an agreement to live in the property rent free. So far so good. The “catch” (if that is the right word) is that when that homeowner dies the property belongs to the organisation who provided the tax free cash sum; it does not belong to your estate. In other words if you were the homeowner and you take out an equity release plan, you cannot pass on the property to you children. Worse still, under some equity release plans, if the borrowing reaches a certain level of equity in the property, (in percentage terms) this would trigger a forced sale. There is no real potential for this event incurring, unless interest rates rise and property prices fall and there is not much chance of that…. or is there?
The equity release organisations sell their products heavily. Celebrities (such as Esther Rantzen) whilst well known and trusted by the target homeowners, are nevertheless there to sell the product. The following is an example of equity release firms advertising material:
“Are you one of the millions of older homeowners who live in a valuable property – but still have to juggle your expenses and sometimes find it a struggle to pay all your bills? Perhaps you have a reasonable lifestyle, but still can’t quite afford some of the comforts and luxuries that you have been promising yourself for many years, or perhaps you need to pay for something expensive you can’t afford, or can’t avoid.”
However this is not the first time that home equity release plans have been marketed heavily. In the early 1990’s, an independent financial advisor, Fisher Prew-Smith (“Fishers”) sold the product under a national press advertising campaign. The products were marketed as Home Income Plans (HIPs). The HIPs were targeted at retired people owning residential properties. The investor was persuaded to mortgage or re-mortgage their property to secure a loan of up to 50% of its value. No interest instalments were to be paid under the mortgage and they were rolled up and added to the sum secured. The mortgages were provided by the West Bromwich Building Society (“WBBS”) which, with a new Chief Executive at the helm was keen to increase its portfolio of non-traditional, non-status lending. This was in effect pre-empting the sub-prime lending of today.
In total sum 823 mortgages were arranged with WBBS as a result of the introduction by Fishers. The plans were sold by a sales force with no formal training and there was no or little effective supervision informing the investors where things might go wrong. What is more the advertisements used were enticing. Phrases such as: “You Don’t Have To Sell Your House To Live On The Sunny Side Of The Street” adorned Fishers’ marketing literature. The way the plans were advertised was to be quite important however when it came to future legal action.
The HIPs had a trigger point which meant that once the total debt exceeded two thirds of the value of the property, the WBBS could repossess the properties. In practice, at a time when interest rates were rising and property prices falling, the trigger points were reached quite quickly.
The majority of investors were compensated by the Investors Compensation Scheme Limited (“ICS”). The ICS in return for compensating the investors took an assignment of their claims to compensation. The ICS could clearly on the surface bring a claim against Fishers for the sales. However they were far more interested with the organisation with much deeper pockets: the WBBS. However, how could the ICS (in the shoes of the investors) pin the blame of the WBBS; after all they just provided the funds.
The High Court Judge hearing the case, Mr Justice Evans-Lombe used a novel approach. He held that the marketing of the home income plans to the public was a joint enterprise by WBBS and Fishers. This rendered WBBS liable, together with Fishers, for the negligence committed by Fishers. Mr Justice Evans-Lombe stated:
“[Fishers] material plainly represents that [their] HIPs will be a safe and secure investment for the remainder of the life of borrowers…. during which they would enjoy the benefits of the Plan”.
No such event in fact occurred.
The above history lesson should perhaps be remembered today. Home equity release plans are being marketed heavily by various organisations. In turn these organisations are backed by building societies and banks. Could for example (albeit with a few changes of character) the part of the WBBS now be played by The Northern Rock? That is a question only and indeed, Northern Rock are not active in the home equity release market, but they do have a reputation as sub prime lenders and sub-prime lending after all is lending to borrowers who may have difficulty in repaying the loan (capital and interest elements).
Conclusions
What lessons can be learnt from the experience of the home equity release plan investors and indeed the WBBS. Firstly, it should be remembered that because of regulation, the consumer was protected. The vast majority of investors were compensated by the ICS. This was a consumer-compensation success story! In a different way, the crowds of people looking to take money out of the Northern Rock, dispersed when the Government announced they would protect people’s investment. In short, although from time to time, we come across mis-selling scandals, the consumer is usually compensated.
In the current climate however there are certain similarities in the home equity release plans now compared to those being marketed 15 years ago or so. Let us hope that it does not get too serious. However if interest rates rise (and there are indications that they are) and if house prices fall (and there are similar such indications) then these things might just be possible. In those circumstances we might see consumers looking for compensation.
Thursday, 01 November 2007
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