Interest serviced lifetime mortgages: A guide for financial advisers

The later life lending space is constantly evolving, bringing new product solutions to the market to meet the needs of an ever-more diverse customer base. Some of these products differ from normal lifetime mortgages and other later life lending products, and need careful consideration as to whether they’re right for your client.

Interest serviced lifetime mortgages are one example of this new breed of products, and in this article we’ll look at how they differ from standard lifetime mortgages, the type of client they could potentially benefit, how they work, and finish by offering a client scenario illustrating how this could work in the real world.

What is an interest serviced lifetime mortgage?

An interest serviced lifetime mortgage offers an interest rate discount if customers choose to make monthly payments, providing these meet an agreed proportion of the monthly interest (typically at least 25%). 

After the lifetime mortgage has been set up, the amount of the monthly payment cannot be changed, but customers can choose to stop making the monthly payments at any time.

What sort of customers could potentially benefit the most from an interest-serviced lifetime mortgage?

Interest servicing lifetime mortgages might appeal to over-55s with some income, but not enough to pass an affordability assessment and hence unable to qualify for a residential mortgage.
  
However, they also wish to reduce the cost of borrowing on their lifetime mortgage by using their limited income to make regular monthly payments of at least 25% of the monthly interest amount, either for a period of time, or for as long as they can afford to make the monthly payments, knowing that should they need to, they can stop making payments at any time.

Alternatively, it could benefit those seeking to gift to family members (to use, for example, as a house deposit), allowing them to lock in the discounted rate, with the family member effectively paying them back to cover the monthly interest payment. 

How will a customer make monthly payments?

Depending on the lender, monthly payments will be made via either Direct Debit or standing order – if the former, a Direct Debit mandate will be sent as part of the offer for the customer to complete. Depending on the date their lifetime mortgage completes, the first monthly payment may be more or less than their regular monthly payment - lenders will write to the customer after completion and confirm the amount and date of their first and subsequent payments.

It's worth noting that, in most cases, customers can’t make any other additional optional repayments in addition to their agreed interest-serviced monthly amounts.

Can customers take a payment holiday, and what happens when they stop making payments?

There may be circumstances where a customer is unable to make the monthly payment – if they find themselves in this position, lenders will offer the ability to take a payment holiday. Depending on the lender and plan, some will have a missed payment allowance that affords a number of missed payments over the entire mortgage term, while others will offer an allowance based on a 12-month period from the date of completion.

Once a customer surpasses the maximum amount of allowable missed payments, then the interest rate will increase because the discount will no longer apply for the remaining mortgage term, and any unpaid monthly interest will be added to the loan each month and rolled up.

If they stop making monthly payments and the interest rate discount no longer applies, the plan will revert to that particular range’s standard penalty-free annual repayment allowance.

What happens if customers take out a cash release or further borrowing? 

If customers have taken an initial interest serviced lifetime mortgage and apply for additional borrowing (whether that’s as a cash release or a further advance), they may have the option to service interest on their additional borrowing too depending on the lender, and receive an interest rate discount if they make monthly payments of at least 25% of the monthly interest. 

As with an initial advance, once any further borrowing has been set up, the monthly payment amount cannot be changed, but they can choose to stop making the monthly payments at any time. 

As with other lifetime mortgages, interest on the additional borrowing will be charged at the prevailing interest rate at that time, which may not be the same as the initial loan.

Client scenario: Borrowing, their way – Mike and Martha replace IO mortgage with an interest serviced lifetime mortgage

Mike and Martha Walker are retired and currently pay £400 a month on their interest-only (IO) mortgage. They were initially comfortable paying this, however, as bills and other costs continue to rise, they are finding it increasingly difficult.

Their financial adviser has explored alternative borrowing options with them and after an affordability assessment determined that they could be paying £1,677.60 per year instead of £4,800 per year on their IO mortgage. The adviser recommends an interest serviced lifetime mortgage, which offers them an interest rate discount of up to 1% if they choose to make monthly payments of at least 25% of the monthly interest.

Mike and Martha can stop making monthly payments at any time. Once the couple has missed more than three payments they can’t be restarted, and the interest rate will then increase to the standard rate as the discount will no longer apply.