How to turn bricks into brass

Some of the sadder voices in the rates debate have been those of older people who have struggled to pay off homes for years and are finally mortgage-free. But because their house value has soared so have their rates. Some find they can't afford what can be several thousand dollars a year and are contemplating having to sell and move somewhere cheaper.

One of the answers 13 councils have offered is postponing rates payments until people die or sell their homes. The accumulated amount, plus compound interest, is taken out of the estate or the sale proceeds.

Western Bay of Plenty District Council was the first to come up with such a scheme and has been running it since 2002. It is similar to the way lifetime loans are run, allowing people to take out a loan based on their age and the equity of their property. The schemes are often called reverse mortgages, or reverse equity schemes.

The rates schemes are cheaper, partly because councils by law are not allowed to make a profit on rates postponement. But both schemes can still add up to a lot of money because the interest charged on money owed is compounded - you pay interest on top of interest. With the rates schemes, interest rates are lower.

Only 45 people have joined Western Bay's scheme so far, but finance and revenue manager Philip Jones believes more people will join as attitudes to debt change.

He concedes, you could use all your equity ultimately "but you'd probably have to live to about 120".

Local government consultant Peter McKinlay worked with Western Bay to develop the scheme and is an adviser to the 13 councils which have joined the consortium and others who may want to join.

"It works like an overdraft, in a sense," he says. Interest is charged half-yearly on the balance outstanding at that point and, while it is compound interest, as the debt increases so does the value of their house.

"People tend to think, 'Gosh, my debt's rising' and don't think 'because I'm taking the debt I can hold the asset that in X years' time might be worth twice what it is now, so I actually come out ahead'."

Downsizing, as suggested this week by North Shore City mayor George Wood, might sound a cheaper option but McKinlay says transaction costs of buying and selling, packing up and moving can be huge.

He provides a case study of rates postponement based on a couple aged in their late 70s, with rates of $1213 as of next July and a borrowing rate of 8.75 per cent.

By the time they are aged around 90 the annual rates are nearly $2500 and the couple owes nearly $47,500. The amount owed tops $100,000 in their mid to late 90s. If projected ahead 27 years they would owe $174,881 - but they would also be aged over 100.

Then there are lifetime loans. You may have seen the cheery old-timer on the advertisement smiling and pushing a wheel barrow. The advertisement is for Sentinel, New Zealand's biggest lifetime loan company which launched in 2004, has 3000 clients and 90 per cent of the market share.

The rest of market share is held by SAI and Lifestyle Security, and some smaller companies.

Sentinel markets itself to the 60-plus age group and says people can get a lump sum for whatever they want, "including home improvements, buying a new car, taking a holiday, paying for a grandchild's university education, or even for an urgent operation in a private hospital facility," according to its website.

Managing director Richard Coon says the average age of clients is 73 and most people take out loans for house repairs or maintenance. "We don't recommend people take it too young in life. You can take it as young as 60 but you know when you're 60 you could be living another 40 years so you don't want to exhaust your capacity."

But even if you take the loan at 60 you cannot lose your house while you are still alive. Sentinel offers what is called a negative equity guarantee so you can remain there for life and if, when you die or sell, the loan is greater than the sale price, Sentinel cannot claim the balance.

He says the scheme is easy to get out of and one in 20 clients pulls out each year. They pay off their loan because they might sell and move into sheltered housing or move in with a relative.

Asked what would happen if someone took up the scheme at 60 and needed to go into care later but had no equity left, Coon says this is a sound option.

"The smart thing to do probably is to run down your asset so that it is less than $160,000 because the way our [the Government's] residential care subsidy works is if you have any assets over $160,000 the excess is required to contribute to the cost of your care."

He gives an example of a 70-year-old woman with a house worth $400,000 borrowing $50,000 at an interest rate of 9 per cent, which he bases on future forecasts, although Sentinel's current rate is 10.75 per cent.

A compounding loan could be expected to double every eight years, so at age 78 she would owe $100,000 and at 86 - around the average female death rate - she would owe $200,000.

But in those 16 years her house would probably be worth around $800,000, so she would still be making a profit for her children, he says.

Coon advises people to look closely at contracts. The industry currently has no standards but a code of practice is being developed and a draft should be released by the Government next month. This will include that people must be able to live in their house for life and that they must get independent legal advice.

Opinions differ widely on whether people should contemplate such schemes. Financial adviser and Herald columnist Mary Holm says they are a great idea. Nobody is being ripped off, she says, even though they should be aware of how big the debts can quickly become.

She does not believe the schemes would make companies vast amounts of money, despite the compound interest, because they are borrowing money now at high interest rates but not getting it back for some time.

She does not recommend people enter schemes too early or to allow themselves to go on holidays, but needing to fix the roof is different: "It does seem silly for people to die with a half-million-dollar house and not have had a very nice retirement, or been stressed out about the condition of their house."

But David Russell of the Consumers' Institute says the schemes are a trap and "people should never, ever go into any of these schemes except as a last resort, and only then after taking professional advice".

Age Concern in Auckland also urges extreme caution. "People rip into them and find out whoa, the $40,000 I borrowed today ... one lady bought a little car, fixed a carpet that had been driving her nuts for five years, went to Australia to see her daughter, came back, worked it out and found that in seven years she'll owe $230,000, I think it is," said chief executive Grant Withers.

He advocates talking the scheme through thoroughly and getting independent advice, which is compulsory for those wanting to join the rates postponement scheme.

People are sent to Relationship Services, which might sound a bit strange, but Fran Hoover from the organisation says big issues can come up, including those about family expectation over inheritance. People have to ask what would happen if their health deteriorates and whether a debt against their equity could limit future options, such as the kind of retirement village they could afford.

And suddenly, people are forced to contemplate their own mortality: "It's a place where people suddenly go, 'well I'm expecting to live another 10 or 20 years but then I'm going to die'."

Cashing in on the future

A woman from central Auckland, now 73, took out a Sentinel loan of $50,000 two years ago, paid off a mortgage of around $30,000, replaced the carpet, bought a new bed and went to see her grandchildren in Australia.

She says the loan helped to ease her financial worries - paying $130 a fortnight for the mortgage was a huge struggle.

But she was concerned to find her benefit rates were affected, although Sentinel says this should not happen.

The woman now owes around $65,000 and is considering pulling out of the scheme.

She has been ill and is considering moving to a retirement home, which would mean paying off the Sentinel loan before it mounted too high. "If I live to be 80 or 90, well, they'll just own the property and that's the problem you have to look at."

A woman from South Auckland, aged 87, also took a $50,000 loan on her house after discussions with her lawyer and daughter.

"As I said to my daughter, I'll give it five years and if I'm still here then I'll sell and go and live with her."

She had needed some repairs on her house, wanted a car and would not have been able to get a loan from a bank because she is too old.

She said the scheme was worth it because it allowed her to have a better life.

Also, she said, "you haven't got the worry of 'how the hell am I going to pay that'."