MONEY COMMENT
Wasting Your Housing Wealth

By Cliff D'Arcy
April 6, 2004

One reason why the UK economy is doing better than its European counterparts is that UK consumers are in the midst of a serious spending binge. According to the Financial Services Authority, the UK's financial regulator, we are spending £100 for every £90 we earn.

So, where are we finding this extra tenner? In an ideal world, it would come from savings - but this is a far-from-ideal world! Debt statistics show that this extra spending is coming from debt: bigger mortgages, more personal loans and larger credit-card bills.

In fact, according to the Bank of England, mortgage equity withdrawal (capital taken out of our homes that isn't re-invested into property) hit £53 billion last year. This means that we increased our mortgage debt by £53 billion and then spent this money elsewhere. Note that this figure roughly equals the interest bill for our total debts in 2003!

Worryingly, in the last quarter of 2003, we withdrew a sum equal to a twelfth of our post-tax income (8.3%) - the highest on record. Buoyed by the UK's apparently unstoppable house-price boom, homeowners are spending tomorrow's money today - and like never before. The problem is that house prices are largely a matter of opinion, and are governed by numerous factors. Debt, however, is harsh reality - as the 660,590 homeowners whose homes were repossessed over the last twenty years will confirm!

Many homeowners are taking advantage of cheap mortgages to consolidate costlier debts. Personally, I think this is both risky and unwise: here's why. So, are there any good reasons for withdrawing equity from our homes? Here are two:

Home improvements

Rather than moving to a more expensive property, many homeowners decide to stay put and improve or extend their existing house. This is often a sensible idea - but don't expect your house's value to increase by more than you've spent. After all, your tastes may not suit everyone - and not all builders do a good job!

Equity release

Over 25,000 homeowners took out equity release schemes last year. These were mostly elderly people who have substantial equity in their homes, but need higher incomes. By withdrawing some of their equity and placing it in income-producing investments, they can boost their earnings. In most cases, the interest on this additional mortgage rolls up, with the entire debt being paid off when the house is sold after the owner dies or goes into a nursing home.

There are several variations on this theme, including home income plans and home reversion schemes (learn more here). Essentially, these involve elderly homeowners 'selling' part of their home in return for a guaranteed income for life. These plans are becoming increasingly attractive to pensioners who are struggling on state benefits. Many consult their families before going down this route, because they are worried about spending their children's inheritance.

Charity Age Concern has a great factsheet (PDF file) that explains the benefits and pitfalls of these schemes. Trade body Safe Home Income Plans (SHIP) also offers advice on this subject.

Finally, if you plan to withdraw some of your housing wealth to spend on your lifestyle (that new car or luxury holiday), I'd urge you to think again. Unless you're investing this capital elsewhere (in investments or property), you're just making yourself poorer in the future!

More: Pensioners Turn To Equity Release | Avoiding The Property Traps | Unlocking The Wealth In Your Home.