Pension Mortgages

What are pension mortgages?

When you need to build up a fund in order to back up an interest-only mortgage and pay off the mortgage capital at the end of the term, one of the riskiest ways is to take out a pension mortgage.

The way it works is this. When you make pension contributions, you get tax relief on your payments. Thus, for every 78p you pay into your pension, the government contributes 22p should you be a basic rate tax payer. Should you be a higher rate taxpayer, you'll get 40p contributed by the government for every 60p you contribute. This is a very tax efficient way to save money, as should you be a higher rate taxpayer and you get the same returns on your pension as with, say an ISA, your fund will be 40% higher in value.

When you come to draw down your pension, you are permitted to take 25% of the entire fund as a tax-free lump sum, with the rest used to buy an annuity, which will pay an annual income until you die. The lump sum that you get will hopefully be used to pay off your outstanding capital on an interest-only mortgage, Maybe you'll get some cash left over after that as well to spend on yourself in your retirement.

Here are the drawbacks of this. You can't touch the money that you have saved in a pension until you are 50. So, despite the fact that you have probably saved a lot of money in order to make sure than 25% of your fund will pay off your mortgage, should there be an emergency need to use some of it you can't get hold of it.

Also, with the uncertainty of the stock market these days, you can never tell what will happen to your fund. Some funds have shrunk over 33% in value over the past few years, and its difficult to have a contingency plan for that, as you'll just have to contribute more each month to your pension.

The other problem is that your pension is supposed to be saved to pay for you in your retirement. This is when you won't get income from work, and the only other income you can get is the annuity, for which rates have also fallen along with stock market returns. That 25% lump sum could go towards a home by the sea, or to pay for care for yourself or your spouse. Do you really want to eat into that fund? In addition, you have to arrange separate life insurance.

If you want to know what the mortgage code thinks about pension mortgages - mortgage lenders are not even allowed to advertise them. Now, isn't that telling?

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

© AskFinancially.com 2009

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