The impact of equity release on pensioner income and the wider economy

Transcription

1 The impact of equity release on pensioner income and the wider economy A report for Just Retirement

2 Contents Executive summary 1 1 Introduction 2 2 Pensioner income and poverty Pensioner income The proportion of pensioners currently in poverty Reasons why pensioners income may decline in the future and more enter poverty 7 3 The potential for equity release to help The income equity release products offer customers An estimate of how many pensioners households could potentially lift out of poverty Estimate of how many pensioners equity release has the potential to lift out of poverty in the future? Implications for long-term care costs 17 4 The macroeconomic impact of equity release Introduction Using the Oxford Economics UK Model to analyse the impact of equity release Baseline forecast Establishing alternative scenarios for equity release Scenario results 26 5 Conclusion 3 About Just Retirement 32

3 Executive Summary This paper looks at the impact of equity release products on relieving pensioner poverty and its impact on the wider macroeconomy. It uses data from Just Retirement s equity release sales and scenario analysis to show how the market may evolve to see how many pensioners equity release could potentially raise out of poverty by 24. It examines how their additional expenditure will impact the economy, creating GDP, employment and generating tax revenue. In 21/11, some 1.7 million pensioners disposable income was below 6% of median household income. This means 14% of all pensioners were in the Department for Work and Pensions (DWP) definition of relative poverty. In 21/11,.8 million pensioners (or 9% of total) were counted as materially deprived using the DWP s new indicator. There are good reasons (closure of defined benefit schemes, increases in the numbers over State Pension age, growth in the old age dependency ratio, the poor state of government finances and increase in longevity) to think that pensioners income will decline in the future, increasing the numbers in poverty. In 211, 16,95 pensioner households took out equity release products. Given the make up of the households, it is possible to estimate 28,166 pensioners received additional income by undertaking equity release. Looking at Just Retirement s new customers in 211, 8% took out drawdown products and 2% lump sum products. Survey data on equity release customers other income suggests up to 6% are below a relative poverty threshold. Using Just Retirement s data on the equity release products they have issued and scenarios for future sales, it is estimated equity release could potentially raise some 1,9, pensioner households out of poverty for a year between 212 and 24. Equity release is a relatively new product. Supply-side and demand-side developments mean it will evolve in the future. If customers select a drawdown product offering 5, each year for 12 years, it could potentially raise between 3.8 and 22.8 million pensioner households out of poverty for a year between 212 and 24. Higher levels of equity release would generate modest macroeconomic benefits over the longer term. These benefits would accrue from allowing households to make use of capital which would otherwise be tied up in residential property. One scenario for equity release suggests it may generate an extra.2 percentage points of GDP by 24. This additional output would also generate around 22, new jobs and produce an uplift in government revenues. 1

4 1 Introduction In 212, 1.9 million people in the UK were 65 years old or over. 1 This is 17% of the total population. By 232, this figure is projected to increase to 16.2 million people or 22%. Some of these pensioners face an uncertain future, as their income is likely to be below their needs. The latest DWP data suggests some 1.7 million pensioners (or 14% of total) were below the most prominent measure of relative poverty. There are good reasons to think future cohorts of pensioners will be worseoff. Survey evidence suggests future pensioners may have an over optimistic view of the income they will receive when they retire. Just Retirement (212) survey of 1, people over the age of 6 found those approaching retirement s estimate of their likely income after retirement was some 7, higher than recently retired people actually received. 2 If this is the case, people in the future may not put in place the necessary financial arrangements to support themselves in their retirement. This paper looks at one potential solution to pensioner poverty. Equity release can enable pensioners who own their own property to access extra income. It reviews how much income existing equity release customers have been able to access and how this may evolve in the future, contributing to lifting pensioners out of poverty. The additional expenditure equity release will introduce into the economy will have a positive impact. These effects are quantified using a large scale macroeconomic model of the UK economy. The paper is organised as follows: Chapter 2 analyses the latest data on pensioner households income. It looks to see how it varies across pensioner household types. The chapter investigates the pensioner households at the lowest end of the income distribution and the numbers falling within the DWP s two definitions of poverty. It explores the reasons why pensioners income may decline in the future. Chapter 3 looks at the equity release market. Its size and how much income it can deliver to pensioners and over what time period. The analysis then looks forward to assess how many pensioners equity release could potentially lift out of the relative income measure of poverty by 24. Lastly, it speculates on how the equity release market may develop and a likely product s impact on poverty. Chapter 4 investigates how the boost to pensioners income from equity release would impact the wider UK economy using Oxford Economics UK macroeconomic model. It explores how much GDP, employment and tax receipts would be generated if the equity release market evolved in three different ways. Chapter 5 concludes. 1 ONS, (21), Projected populations at mid-years by age last birthday, 26 October. 2 Just Retirement, (212), The role of housing equity in retirement planning, July. 2

5 2 Pensioner income and poverty Main points The lowest 2% of single and couple pensioners (some 2.6 million people) had a median disposable income after housing costs of just 5,2 and 5,122 a year per person in 21/11, respectively. In 21/11, some 1.7 million pensioners disposable income was below 6% of median household income. This means 14% of all pensioners were in the DWP s definition of relative poverty. In 21/11,.8 million pensioners (or 9% of total) were counted as materially deprived using the DWP s new indicator. There are good reasons to think that pensioners income will decline in the future, increasing the numbers in poverty. 2.1 Pensioner income The DWP published data on pensioner incomes. 3 After tax and paying for their housing costs, the median average pensioner household in 21/11 has an annual disposable income of 13,52 (Chart 2.1). This is 28% below the median for all households in the UK of 18,668 a year. 4 Chart 2.1: Median annual net income of households after housing costs in 21/11 2, 18, 16, 14, 12, 1, 8, 6, 4, 2, Whole population Pensioners Source : DWP (212) As with any average, it masks considerable disparity in disposable income 3 Department for Work and Pensions, (212), The pensioners incomes series Department for Work and Pensions, (212), Family resources survey 21/11, June. 3

6 across pensioner households. Pensioner couples have a higher income than those living alone, with a median income of 19,344 a year compared to 9,776 for single pensioners (Chart 2.2). Within the single pensioners, the median single male receives more than the female ( 1,712 versus 9,412 a year). 5 Chart 2.2: Median annual net income of pensioner households after housing costs in 21/11 split by type 2, 18, 16, 14, 12, 1, 8, 6, 4, 2, All Couples Singles Male single Female single Source : DWP (212) Average disposable income also varies with the age of the head of the pensioner household. Older pensioners tend to have lower disposable incomes. Across both types of pensioner households, the median disposable income which pensioners can spend is 15,756 a year if they are recently retired, 15,34 if under 75 years old and 11,7 a year if over that age threshold. Single pensioners over 75 years old receive the least (at 9,62 a year (Chart 2.3)). 6 By definition, half the pensioner households receive less income than the median. But significant numbers of pensioners have much lower incomes. Of the 8.7 million pension households, some 4.6 million are single pensioners. Analysis of their income suggests that median for the lowest quintile (or some 91, people) receive 5,2 a year (Chart 2.4). 7 The median for the second and third quintiles are also very low at 7,592 and 9,724 a year, respectively The poorest 2% of single pensioners have an average income of 5,2 a year. 5 DWP (212) shows single male pensioners in 21/11 on average receive more income than single female pensioners from occupational pensions, investment and personal pension. 6 DWP (212) reports there are a number of reasons why age is important. These include older pensioners are less likely to be in any form of work, the growth in occupational pension schemes in the 195s and 196s is beneficial to the younger cohorts and the length of time since retirement matters as the value of pensions typically fall in real terms. 7 A quintile is 2% of a ranked dataset. The bottom quintile is the lowest 2% of the dataset (1 to 2%). 4

7 Chart 2.3: Median net income of pensioner households after housing costs in 21/11 split by age 8 22, 2, 18, 16, 14, 12, 1, 8, 6, 4, 2, All Couples Singles Source : DWP (212) The 4.2 million pensioner households comprising couples receive higher income than the single ones. The lowest quintiles median income is 1,244 a year. However, on a per person basis the poorest two quintiles (or some 3.3 million people) receive less than their single counterparts, a median average of 5,122 and 7,154 a year. Chart 2.4: The distribution of pensioner households annual net income between 28 and 211(median for each quintile) 45, 4, 35, 3, 25, 2, 15, 1, 5, Bottom Source : DWP (212) Second bottom bottom Middle Second top Top Quintiles 8 Where recently retired is defined as when the single pensioner or head of the pensioner couple is less than five years over the State Pension age. 5

8 2.2 The proportion of pensioners currently in poverty There are a variety of measures of poverty. 9 Although not an official poverty series, the DWP publish a statistical release entitled Households Below Average Income. 1 This contains information on the number and characteristics of pensioners falling below various thresholds (5%, 6% and 7%) of household median income. In 21/11, some 1.7 million people were below the commonly used 6% threshold. Or put another way, 14% of all pensioners were in relative poverty (Chart 2.5). Chart 2.5: Proportion of pensioners receiving below the 6% of contemporary median income after housing costs % The latest data shows that 1.7 million pensioners (or 14% of total) are in relative poverty / / / / / / 2/1 21/2 22/3 23/4 24/5 25/6 26/7 27/8 28/9 29/1 21/11 Source : DWP (212) Looking at the characteristics of the pensioners below the 6% threshold, 93% do not work, compared to 83% of all pensioners. Some 58% do not receive any occupational or personal pension income, compared to 27% of all pensioners. Some 33% have no savings and investments, compared to 21% of all pensioners. From the perspective of being able to obtain equity release, 6% of pensioners who are below the 6% threshold own their home outright. The DWP also publish information on the percentage and number of pensioners aged 65 or over who are in material deprivation. 11 This is a survey based measure of poverty about peoples access to items and services (such as having at least one filling meal a day or having a home in a good state of repair). 9 See Townsend, I, and Kennedy, S, (24), Poverty: measures and targets, House of Commons Research Papers 4/23. 1 Department for Work and Pensions, (212), Households below average income: An analysis of the income distribution 1994/5-21/11, June. 11 McKay, S, (21), Using the Family Resources Survey question block to measure material deprivation among pensioners, Department for Work and Pensions Working Paper No

9 According to this indicator some 9% of pensioners (or.8 million people) were materially deprived in 21/11. The pensioners who are materially deprived differ from the rest in similar ways to those with income below the 6% income threshold. Virtually all (95%) do not work, compared to 88% for all pensioners. Most (59%) do not have an occupational or personal pension, compared to 26% of all pensioners. Similarly, 63% do not have any savings or investments, compared to 21% for the whole pensioner population. From the perspective of equity release having the scope to improve their situation, 38% own their properties outright. 2.3 Reasons why pensioners income may decline in the future and more enter poverty There are a number of reasons to expect pensioners income to decline in real terms in the future. This is likely to increase the share of pensioners who fall below the 6% of contemporary median income threshold or are materially deprived. The reasons are: To the extent firms offer occupational pension schemes to new employees, they are now virtually all defined contribution rather than defined benefit. Employees and employers choose to contribute significantly less to the former than they do to the latter, as a result occupational pensions will deliver far less income to people retiring in the future than those retiring now. In 211, ONS (212) data showed employees and employers contributed 19.1% of the average salary to defined benefit occupational pension schemes compared to 9.4% for defined contribution (Chart 2.6). 12 There are good reasons to believe pensioners income may fall in future. The switch from defined benefit to defined contribution schemes also has implications for the real value of peoples pensions. Defined benefit pensions generally increase in line with inflation. In contrast, annuities bought with defined contribution schemes pension pots mostly do not increase at all ONS, (212), Occupational pension schemes survey, 211, 19 September. Data from Table Annuities adjusted with inflation (RPI) are available. 7

10 Chart 2.6: Weighted-average contribution rates to private sector occupational schemes by benefit structure and contributor % of salary Source : ONS (212) Member contributions Employer contributions The ratio between the numbers of people who are over State Pension age compared to those of working age (known as the old age dependency ratio ) is forecast to increase. In 212 the ratio of over 65 year olds to 15 to 64 years old stood at 26%, it is forecast by the UN to reach 34% by 23 and 4% by 25 (Chart 2.7). This suggests society will be less able to afford to pay State Pensions. The government is already postponing the age of entitlement to State Pensions. It may also be required to make it means tested or limit its growth in nominal terms (so its real value will be eroded). This will have a significant impact as 97% of pensioner households received it in 21/11, with the median recipient getting 7,124 a year. Over the next five to ten years, the efforts to repair the government s finances are likely to mean that benefit payments may fall in real and possibly nominal terms. In 21/11, some 3% and 23% of all pensioner households received income related and disability benefits, respectively. For those in receipt, the median payment was 3,484 and 3,588, respectively. The further pensioners are beyond the State Pension age the less likely they are to be in work. The increase in longevity is likely to increase the numbers of pensioners who are unable or choose not to work. This impact may not be significant: in 21/11, 18% of all pensioner households were employed or self-employed, albeit their median wage was high 17,992 a year. 8

11 Chart 2.7: Ratio of people of over 65 to people between the ages of 15 to 64 years old Ratio Source : Oxford Economics/UN Forecast The increase in longevity also means that pensioners savings and investment income has to stretch over more years. This means the rate of savings depletion is likely to be quicker, providing less income each year. This effect may not be large: while DWP (212) shows some 68% of pensioner households received investment income in 21/11, the median amount was only 28 a year for those in receipt. 9

12 3 The potential for equity release to help Main points In 211, 16,95 pensioner households took out equity release products. Given the make up of the households, it is possible to estimate 28,166 pensioners received additional income by undertaking equity release. Looking at Just Retirement s new customers in 211, 8% took out drawdown 14 products and 2% lump sum products. Survey data on equity release customers other income suggests up to 6% are below the relative poverty threshold. Using Just Retirement s data on the equity release products they have issued and scenarios for future sales, it is estimated equity release could potentially raise some 1,9, pensioner households out of poverty for a year between 212 and 24. Equity release is a relatively new product and supply-side and demandside developments mean that it will evolve in the future. If customers switch to a drawdown product offering 5, each year for 12 years, it could raise pensioner households out of poverty between 3.8 and 22.8 million occasions between 212 and 24. This chapter looks at how much additional income equity release could give to pensioners and how many people could potentially be lifted out of poverty between 212 and 24. The modelling initially uses data on existing equity release customers behaviour and Mintel s (211) forecast of the number of new equity release plan sales. As the equity release market is very young and pensioner incomes are expected to fall, two scenarios are then analysed as to how the market may evolve. 3.1 The income equity release products offer customers In 211, 16,95 pensioner households took out equity release products. 15 Given the make up of customer households (65% pensioner couples and 45% singles), it is possible to estimate 28,166 pensioners received additional income by undertaking equity release. 16 To investigate how much extra income and the time period over which the money is received the analysis looks at Just Retirement s new customers in 211. In the year, Just Retirement issued 6,231 equity release products. Given this is a large proportion (39%) of the market, the analysis assumes Just Retirement s customer base is representative of the whole market. 14 A drawdown equity release product gives the customer an initial payment and then allows them to take the remainder of the cash facility in annual amounts over a time profile of their choosing as and when they need it. A lump sum product gives the customer the entire cash facility in one go up front. 15 Equity Release Council data (formerly SHIP) represents close to 9% of the market by value. 16 Key Retirement Solutions, (212), UK equity release market monitor, 211 review. 1

13 In 211, some 8% of Just Retirement s new customers purchased drawdown equity release products and 2% lump sum ones. The drawdown customers cash facility ranged from 14, to 44, (Chart 3.1). Of this, the percentage taken in the first year as the initial payment ranged from 12% to 9% of the cash facility. The lump sum customers cash facility ranged from 14, to 6,. Chart 3.1: Just Retirement s distribution of new equity release customers cash facility in 211 3, 25, Median 2, 15, 1, Lump sum cash facility Drawdown cash facility Drawdown initial payment 5, Source : Just Retirement/Oxford Economics Percentile Some insight into the rate at which drawdown customers subsequently deplete their cash facility can be gained by Just Retirements customers experience (26 to 212H1). On average 13% of each customer year cohort took drawdown income in addition to their initial payment in Year 1 (Chart 3.2). In Year 2, an average of 31% of each customer year cohort took some income. This proportion declines fairly steadily thereafter. There is not much difference in the percentage of each customer year cohort taking income across years. 11

14 Chart 3.2: Average percentage of Just Retirement s drawdown customers taking a payment each year % Year 1 Year 2 Year 3 Year 4 Year 5 Year 6 Source : Just Retirement Some insight on the average amount drawn down each year can also be gathered from Just Retirement s existing customer base. Looking across the year cohorts, the average drawdown of those making one in Year 1 was 12,245 (Chart 3.3). This declines steadily each year, falling to 7,162 by Year 6. Again, there is not a lot of volatility in behaviour between customer years. Chart 3.3: Average size of drawdown made by Just Retirement s drawdown customers each year (by those taking income that year) 14, 12, 1, 8, 6, 4, 2, Year 1 Year 2 Year 3 Year 4 Year 5 Year 6 Source : Just Retirement 12

15 If all Equity Release Council ( Council ) members customers in 211 behave as those which take Just Retirement s equity release products, they would have received some 528 million in the first year. 17 Of this, 193 million comprises payments to lump sum customers, 315 million initial payments to drawdown customers and 21 million payments to drawdown customers who drew down an additional amount in Year 1 (Chart 3.4). The proportion of new customers in 211 opting to take money in 212 (Year 2) are estimated to receive 44 million this year. A further 32 million and 23 million is projected to be paid in 213 (Year 3) and 214 (Year 4). Chart 3.4: The total income customers taking out equity release products in 211 are projected to receive based on previous cohorts behaviour million Drawdown - subsequent payments Drawdown - initial payment Lump sum 1 Year 1 Year 2 Year 3 Year 4 Year 5 Year 6 Source : Just Retirement/Oxford Economics 3.2 An estimate of how many pensioner households could potentially lift out of poverty To investigate how many pensioner households equity release could potentially lift out of poverty, it is necessary to know the amount of income customers receive from other sources. AgeUK s (21) data shows the distribution of equity release customers by other household income (Chart 3.5). 18 Some 4% receive less than 5, in income from other sources, 23% receive between 5, to 9,999 and 33% between 1, and 14,999. The remainder receive over 15,. 17 The Equity Release Council ( Council ) is the industry body for the equity release sector. Born from an expansion of the remit of SHIP (formerly Safe Home Income Plans) the Equity Release Council represents the providers, qualified financial advisors, lawyers, intermediaries and surveyors who work in the equity release sector. 18 Overton, L, (21), Housing and finance in later life: A study of UK equity release customers, AgeUK. 13

16 Chart 3.5: Distribution of equity release customers other household income each year % Under 5 5-9,999 1,- 14,999 15,- 19,999 2,- 24,999 25,- 29,999 3, or more Source : Age UK (21) As the 6% of median income poverty criteria lies at 13,52 in 21/11, equity release can only potentially raise pensioners in the three lowest income categories out of poverty. 19 For the calculation it is assumed that the new customers falling in each other income category are equally distributed between the lower and upper limit. For the 1, to 14,999 category, spreading the pensioners other income evenly between the category s boundaries suggest 61% of the people within this category fall below the poverty threshold and 39% are above it. In the modelling work, lump sum equity release products raises recipients income in Year 1. The amount reflects Just Retirement s median payment to this type of customer between 26 to 211. It has no impact on taking pensioners out of poverty in subsequent years as the definition of poverty is based on income each year. This is a conservative assumption as in reality not all the money will be spent in the first year, so may increase consumption in future years. All drawdown customers receive their initial payment income in Year 1, the scale is modelled by past drawdown customers median initial payment size. The proportion of customers drawing down income in Year 1 and subsequent years and the amount received is as shown in Chart 3.2 and 3.3. As Just Retirement s median customer age is 69 years old when they take out equity release, a mortality rate of 2.2% a year is assumed based on ONS (212) death rate by age data In the modelling, we have focussed on the equity release customers in the 5, to 9,999 and 1, to 14,999 other income categories (shaded black in Chart 3.5) as Just Retirement didn t think the under 5, income category was sufficiently large in size to be material. 2 The figure of 2.2 is a simple mean average of the death rates for 7-74, and 8-84 year olds in ONS, (211), Births and deaths in England and Wales (provisional), 1 July. 14

17 Mintel (211) contains forecasts for the number of new equity release customers out to The size of the market is then projected forward to 24 by extrapolating Mintel s central forecasts for the average number of new sales each year. On this basis the market reaches 78,4 new equity release sales a year by 24. The analysis suggests that equity release could raise 7,872 pensioner households income above 6% of median income poverty threshold in Year 1 (Chart 3.6). The impact occurs through lump sum equity release and the impact of drawdown customers initial payment and Year 1 drawdown. In the second year this grows to 1,729 households, as 8,8 new customers incomes are boosted plus 1,929 of the previous year s customers drawdown sufficient income to get above the threshold. Between 212 and 24, 1,9, pensioner households could be lifted out of poverty for a year. In 24, 63,725 pensioner households are estimated to be raised above the threshold. Chart 3.6: Number of pensioner household raised above the relative poverty threshold by equity release each year Pensioner households 7, 6, 5, 4, 3, Between 212 and 24, equity release could lift 1,9, pensioners out of poverty for a year. 2, 1, Source : Oxford Economics/Just Retirement 3.3 Estimate of how many pensioners equity release has the potential to lift out of poverty in the future? The equity release market is a relatively new market. There will be both supplyside and demand-side developments that change the way it operates. On the supply-side the products on offer are likely to continue to alter, likewise the market participants which offer them. On the demand-side the numbers of 21 Mintel, (211), Equity release. 15

18 pensioners is predicted to increase, along with their need for income from alternative sources (see Section 2.3). To investigate how the market may evolve, the analysis looks at a possible version of the future. As with any forward looking exercise, it is entirely speculative. It shows the benefits equity release could bring. In this scenario a new product is developed, it is a drawdown product with no requirement for an initial payment. This was chosen given the popularity of drawdown products in Just Retirement s (212) qualitative research on the market for equity release. Participants suggested drawdown products were more attractive as they offer greater flexibility and offered the customer more control. 22 The new product assumes customers will take the same amount every year until their facility is exhausted. It is assumed the average size of an equity release product cash facility is 6,. It is further assumed each new customer draws down 5, a year for twelve years before they move into long term care or die. For simplicity it has been assumed sales of the new product are the same as those extrapolated from the Mintel forecasts used in Section 3.2. The impact on the number of pensioner households in poverty is modelled as in Section 3.2. It is assumed that the recipient households other income each year is distributed according to Chart 3.7. To this is added 5, a year from the equity release product for twelve years. This has the potential to raise some of those in the 5, to 9,999 and 1, to 14,999 other income categories above the 6% of median income threshold. Between 212 and 24, this is estimated to raise 3.8 million pensioner households out of poverty for a year (Chart 3.7). In 24, it raises 247, households out of poverty. Chart 3.7: Number of pensioners estimated to be taken out of poverty each year by equity release if the hypothetical new product (12 times 5, a year takes off) Pensioner households 3, 25, 2, 15, 1, 5, Source : Oxford Economics 22 Just Retirements, (212), Equity release research: Unlocking the market for equity release, April. 16

19 The Mintel forecasts of the number of new equity release customers each year suggests a constant average growth rate (CAGR) of 4.8% over the twenty eight years. But for the reasons set out in Section 2.3, there are good reasons to believe future pensioners income are likely to decline: the move away from defined benefit pension schemes to defined contribution arrangements, the declining value of state pensions and increasing longevity mean that the savings and investments people have accumulated over their working lives need to last much longer. One implication of this and the growth in the number of pensioners is that there may be a larger number of pensioners looking to supplement their income. We have modelled the impact of two more aggressive scenarios where the number of new customers increase more rapidly. The two scenarios (discussed later in Chapter 4) suggest that new customers increase by a CAGR of 14.1% (Scenario 1) and 13.8% (Scenario 2) a year. If these customer growth rates occur, with the new drawdown product of 5, a year for twelve years, considerably more pensioners could potentially be lifted out of poverty. The modelling estimates Scenario 1 would lift pensioners out of poverty for a year on 22.8 million occasions between 212 and 24. Looking at individual years, it lifts 2.2 million out in 24 (or 13.1% of total (Chart 3.8)). Scenario 2 would potentially lift pensioners out of poverty on 14. million occasions over the twenty eight years. It is estimated to lift 1.6 million out in 24 (9.9% of total). If the equity release market grows more rapidly, it could potentially lift pensioners out of poverty on 22.8 million occasions by 24. Chart 3.8: Percentage of pensioners the new equity release product could potentially lift out of poverty % Source : Just Retirement/Oxford Economics 3.4 Implications for long-term care costs By offering elderly people the financial means to stay in their homes for longer, equity release may increase the proportion who receive health care at home 17

20 rather than entering long-term residential care. This will have financial implications for the public sector. This will be partly distributed between the National Health Service and local authorities. It may also alter the absolute scale of the bill. Many academic studies have sought to compare the cost effectiveness of home care relative to residential care. 23 Unfortunately, there remains a divergence in opinion as to which is the most cost effective system, allowing for greater quality of life, morbidity and mortality etc. The lack of any consensus in part reflects the difficultly in being able to find people with identical care needs for which it is possible to compare costs. Curtis (211) collates unit costs for a wide range of health and social care services in the UK. 24 This suggests a place in a local authority residential care home for older people (including health treatment costs) is 52,26 a year per resident. The study also provides data on the costs of treatment at home. This ranges from 2,436 per year for the cheapest 1% of home care patients to 64,48 to the most expensive 1% (Table 3.1). The median cost is 3,784 a year. If comparison is drawn with the median cost, home care is 21,476 cheaper than residential care (although this needs to be interpreted with caution given the absence of information about care needs). Table 3.1: Public expenditure costs of various community care packages for older people Cost of care per year Cheapest decile 2,436 Cheapest quartile 22,984 Median 3,784 Most expensive quartile 57,2 Most expensive decile 64,48 Source: Curtis (211) No data are available on the health of those taking equity release products. It is therefore difficult to speculate how much the public purse will save from treating them in the home rather than in residential long-term care. It is also unknown how the equity release market will evolve in the future. However, it is possible to speculate the size of the saving is likely to be very significant if the median care cost differential is 21,476 a year and forecasts of the numbers receiving equity release by 24 range from 9, to 7.8 million. 23 For a literature review see Hollander, M, (1999), Substudy 1: Comparative costs analysis of home care and residential care services, November. 24 Curtis, L, (211), Unit costs of health and social care 211, PSSRU. 18

21 4 The macroeconomic impact of equity release Main points Our modelling suggests that higher levels of equity release would generate modest macroeconomic benefits over the longer term. These benefits would accrue from allowing households to make use of capital which would otherwise be tied up in residential property. The most aggressive scenario for equity release is seen to generate an extra.2 percentage points of GDP by 24. This additional output would also generate around 22, new jobs and produce an uplift in government revenues. 4.1 Introduction Chapters 2 and 3 demonstrate the benefits that higher levels of equity release would generate for pensioners. However, there are also likely to be some benefits to the UK economy as a whole, from providing additional income flows and from unlocking capital which would otherwise be tied up in residential property. In this chapter we use the Oxford Economics UK Model to assess the impact that various levels of equity release would have on the UK economy. 4.2 Using the Oxford Economics UK Model to analyse the impact of equity release How would equity release impact the economy? By taking out an equity release product, homeowners are able to access additional income, taken either as a lump sum or drawn down over a number of years after taking a significant initial payment. Therefore, increasing the number of equity release policies taken out would provide a boost to household incomes at the whole economy level. Economic theory would suggest that such a positive shock to household income would increase levels of consumer spending and, therefore, economic growth. Stronger economic growth might be expected to generate other indirect benefits, such as higher levels of employment and business investment, though additional demand might also be expected to cause higher inflation and, in an era of inflation-targeting, higher interest rates, which would then be expected to push down on demand. Over the longer term a pure demand shock would have no permanent impact on the economy, because longer term performance is governed by supply side characteristics. The supply side can be strengthened by boosting the contributions of either productivity growth or population growth and in this case it 19

22 could be argued that more intensive use of capital could filter through into productivity improvements. Clearly the relationships are complex, so the best way to assess the macroeconomic benefits of equity release is to use a macroeconomic model to analyse the impact of various levels of equity release. The Oxford Economics UK Model provides a rigorous and consistent framework within which to assess the impact of such scenarios. Oxford Economics UK Model The Oxford Global Economic Model is the most widely used commercial International Macro Model, with clients including international institutions, Ministries of Finance and central banks around the world, as well as a large number of blue-chip companies. It provides a rigorous and consistent structure for forecasting and scenario analysis. The UK Model is a submodel of the Global Model and contains more than 6 variables. The model properties are such that in the short term, increased demand would lead to higher output and employment. Eventually those conditions would cause higher wages and prices, leading to inflation and interest rates to rise, therefore reducing demand. Output in the long run is determined by supply-side factors, namely productivity and population growth. The UK model is of particular use in this instance because of its detailed coverage of the household sectors and the housing market, each of which are integral to analysing equity release Accounting for income from equity release The current system of national accounts does not provide explicit estimates of income from equity release. Rather, such income flows fall into a category of miscellaneous income, the largest part of which is income from self employment. The Oxford Economics UK Model mimics the breakdown of personal disposable income published by the Office for National Statistics (ONS), with personal disposable income being the sum of: Income from wages & salaries (+) Net interest receipts (+) Personal sector transfers from central government (+) Personal sector dividend receipts (+) Other pension fund contributions by employers (+) Other income (+) Income tax payments (-) Employee social security contributions (-) 2

23 Therefore, income from equity release products is accommodated within the other income category of personal disposable income in the Oxford Economics UK Model. 4.3 Baseline forecast The Oxford Economics baseline forecast for the UK shows a gradual recovery over the next five years, but one which is considerably slower than previous cycles due to deleveraging by the household and government sectors. Over the longer term we expect the UK to grow by around 2.2% a year; this compares with growth of around 2.6% a year over the past thirty years, with the key reason for the weaker outlook being slower growth in the size of the workforce due to an ageing population. The forecasts for the key macroeconomic variables are shown in Table 4.1. Table 4.1: Oxford Economics baseline forecast Baseline forecast (Average annual percentage changes unless specified) GDP Household consumption Personal disposable income CPI Unemployment rate (ILO, %) House prices Bank of England base rate (%) Our forecast contains no explicit forecast of the level of equity release, given that it forms part of the wider other income category. However, there is a need to establish a baseline forecast for equity release to provide a benchmark against which to calibrate the scenarios. We think that a logical baseline assumption would be that over time, the level of equity release remains at a constant proportion of the market value of the housing stock. As such, our baseline forecast for the UK economy could be considered to be consistent with the level of equity release increasing from.8bn in 211 to 3.3bn in 24, an average growth rate of 5.2% a year. As a point of comparison with the wider economy, in 211 the level of equity release was around.4% of other income or.1% of personal disposable income. 21

24 4.4 Establishing alternative scenarios for equity release The parameters for the scenarios were agreed in consultation with Just Retirement and are as follows: Scenario 1 Equity release grows by 7.5% a year from This extrapolates the growth rate forecast for by SHIP/Mintel in Scenario 2 Equity release grows by 16% a year on average from 211-4, with a strong pickup in the early part of that period before growth tails off as the rate of market penetration increases. Scenario 3 Equity release grows by 18% a year on average from 211-4, with a stronger pickup in the early part of that period than in scenario 2 and weaker growth over the second part. Chart 4.1 and Table 4.2 compare the level of equity release in the three scenarios with the baseline. Chart 4.1: Value of new equity release plan advances bn Scenario 1: Eq Rel Council/Mintel baseline Scenario 2: JR 16%pa Scenario 3: JR 18%pa with rapid take-up OE baseline Source : Just Retirement/Oxford Economics 25 Mintel, (211), Equity Release, UK,. 22

25 Table 4.2: Growth in the value of new equity release advances Source : Oxford Economics Equity release scenarios Average annual growth rates Baseline Scenario 1: Eq Rel Council/Mintel baseline Scenario 2: JR 16% pa Scenario 3: JR 18% pa with rapid take-up Calculating an income flow from equity release The income flow to households from the additional sale of equity release products will not all be realised in the year that the product is sold, as a proportion of the products sold will be of the drawdown variety, offering an income flow over a number of years. In imposing the additional income from equity release onto our model, we sought to mimic the typical year-by-year income flow to customers seen in the market. A sample of customer data from Just Retirement suggested a definite trend towards drawdown products and away from lump sum policies (see Chart 4.2 and Chart 4.3), both in terms of the number of policies taken out and their value. Chart 4.2: Number of policies taken out by type Number of policies 6, 5, 4, 3, Lump sum Drawdown 2, 1, Source : Just Retirement/Oxford Economics 23

26 Chart 4.3: Value of policies taken out by type mn Lump sum Drawdown Source : Just Retirement/Oxford Economics However, analysis of the actual cash withdrawal profile suggested that the yearby-year cashflow had not changed significantly over time. Just over 7% of the value of the equity release product was disbursed to clients within the first year, with a steady flow of smaller amounts thereafter (see Chart 4.4). Consultation with Just Retirement suggested that the requirement for drawdown customers to take a large lump sum at the beginning of the agreement accounted for these trends. Chart 4.4: Income flow to customers for policies taken out from % of total cash facility 9 T T+1 T+2 T+3 T+4 T+5 T+6 Not yet drawn Source : Just Retirement/Oxford Economics 24

27 Chart 4.5: Equity release income paid to households bn Scenario 1: Eq Rel Council/Mintel baseline Scenario 2: JR 16%pa Scenario 3: JR 18%pa with rapid take-up Source : Oxford Economics Given that the profile of the income flow has remained relatively stable, we assume that it will remain stable for years 1 to 6 in the future. We then assume that customers continue to drawdown any remaining income in equal instalments in years 7 to 2. The size and profile of the additional income disbursed to households in the three scenarios are shown in Chart 4.5 and Chart 4.6: Impact of equity release income paid to households % of personal disposable income Scenario 1: Eq Rel Council/Mintel baseline Scenario 2: JR 16%pa Scenario 3: JR 18%pa with rapid take-up Source : Oxford Economics 25

28 4.5 Scenario results The results show an initial positive impact on GDP in each of the scenarios, as the boost to household incomes pushes up consumer spending. Because demand increases with no matching increase in supply, in the short-term, this pushes up inflationary pressures and interest rates rise to keep inflation in line with the target, which then dampens demand and the economy moves back towards equilibrium. Greater use of equity release could raise GDP by up to.2% by 24. However, in each scenario there is a degree of longer-term or permanent benefit from the additional income. This is because the added equity release unlocks and uses capital which would otherwise be unused. The boost to the UK s productive potential is less than would be the case if, for example, that capital were released to the corporate sector, who would be able to invest it in activities such as research and development to boost productivity. Nonetheless, our model suggests that there would be some permanent benefit (see Chart 4.7) and that higher consumer spending will be the main source of increased activity (see Chart 4.8). In Scenario 3, where the increase in equity release is most aggressive, our modeling suggests that in 24 the level of GDP would be.2% higher than the baseline, which equates to just over 6 billion. Chart 4.7: GDP difference from baseline Percentage points Scenario 1 - Eq Rel Council/Mintel base case Scenario 2 - JR 16% pa Scenario 3 - JR 18% pa with rapid take up Source : Oxford Economics 26

29 Chart 4.8: Consumer spending difference from baseline Percentage points Scenario 1 - Eq Rel Council/Mintel base case Scenario 2 - JR 16% pa Scenario 3 - JR 18% pa with rapid take up Source : Oxford Economics The results also suggest that house prices would be higher under scenarios where there is additional equity release. This is because stronger household incomes increase the demand for housing and the supply of housing is relatively inelastic because of planning and land availability issues. As such, the improvement in housing supply always lags a little behind the improvement in demand and puts modest upward pressure on house prices (see Chart 4.9). In Scenario 3, where the increase in equity release is at its largest, the modeling suggests that house prices would be 3.1% higher than in the baseline in 24. Chart 4.9: House prices difference from baseline Percentage points Scenario 1 - Eq Rel Council/Mintel base case Scenario 2 - JR 16% pa Scenario 3 - JR 18% pa with rapid take up Source : Oxford Economics 27

30 Our modeling suggests that there would also be other benefits to the economy. Stronger levels of economic growth would increase labour market participation and lead to higher employment levels than in the baseline (see Chart 4.1); the largest increase is in Scenario 3, where in 24 the level of employment is.1% higher than in the baseline, which equates to 22, additional jobs. 22, additional jobs could be created by greater use of equity release by 24. Chart 4.1: Employment difference from baseline Percentage points Scenario 1 - Eq Rel Council/Mintel base case Scenario 2 - JR 16% pa Scenario 3 - JR 18% pa with rapid take up Source : Oxford Economics In addition, higher levels of activity generate stronger growth in tax receipts for the government. In 24 government revenues are 2.2% higher in Scenario 3 than in the baseline (see Chart 4.11). This reflects a 1.9% and.6% increase in income tax and VAT receipts, respectively. These are partially offset by a decline in other taxes (as receipts do not keep pace with inflation so fall in real terms). Greater use of equity release could increase tax receipts by up to 2.2% by 24. Chart 4.11: Government revenues difference from baseline Percentage points Scenario 1 - Eq Rel Council/Mintel base case Scenario 2 - JR 16% pa Scenario 3 - JR 18% pa with rapid take up Source : Oxford Economics 28

31 It is possible that the scale of these positive impacts may be reduced over a longer time frame, particularly for Scenarios 2 and 3, for two reasons. First, the significant increase in market penetration over the period leaves a much smaller pool of properties without an equity release policy. This points to weaker growth in sales of equity release products and, therefore, less additional income, in subsequent years. Second, the fact that a greater proportion of people have taken out equity release policies will mean that as these policy holders die, the amount of wealth which is passed onto future generations will be lower than would have been the case in the baseline forecast. Both of these effects are likely to have an impact over the longer term, but are very difficult to quantify so we have not attempted to make allowance for these factors within these scenarios. Our modelling suggests that higher levels of equity release would generate modest macroeconomic benefits over the longer term, through allowing households to make use of capital which would otherwise be tied up in residential property. The most aggressive scenario for equity release is seen to generate an extra.2 percentage points of GDP in 24; as a point of comparison, our model suggests that a 1% depreciation in the value of sterling would raise GDP by around 1.2 percentage points. Therefore, the scale of the potential benefits is relatively modest, but it would provide useful additional support to the benefits for pensioner groups detailed in other chapters. 29

32 5 Conclusion Pensioner poverty is an existing problem that is likely to become worse. This research has looked at one means by which future retirees might secure a better income and the impact this might have both on their personal finances and the economy as a whole. In the gap between the decline of defined benefit pensions and the rise of a new life-long savings culture (were such a thing ever to be achieved) there will be many years to come in which people enter retirement with incomes inadequate to support a decent standard of living. The challenge for policy-makers is to find a range of affordable measures by which the poverty caused by inadequate pension income may be alleviated in the interest of the well-being of the individuals and for the good of the public finances. In 21/11, some 1.7 million (or 14% of total) pensioners disposable income was sufficiently low that they fell into the DWP s classification of being in relative poverty. According to the DWP s other indicator,.8 million pensioners (or 9% of total) were classified as materially deprived. The absolute number of people 65 years or older in the UK is forecast by the UN to increase from 1.9 million people in 212 to 16.2 million by 232. The 65 year olds and over share of the population will increase from 17% in 212 to 22% by 232. Unfortunately, there are good reasons to think future generations of pensioners will be worse off than the current one. These include the move away from defined benefit pension schemes to defined contribution arrangements, the declining value of state pensions and increasing longevity mean that the savings and investments people have accumulated over their working lives need to last much longer. Survey evidence suggests future pensioners may have an over optimistic view of the income they will receive when they retire. Just Retirement s (212) survey of 1, people over the age of 6 found those approaching retirement estimate of their likely income after retirement was some 7, higher than recently retired people actually received. It is likely many future pensioners will not have put in place the necessary financial arrangements to support themselves in their retirement. The same survey showed that there is a lack of awareness of other costs of later life, such as long-term care and poor understanding of how those cost would be shared between the individual and the state. The research revealed that consumers looked to the Government for greater clarity about where responsibility lay for meeting the costs of retirement. They also sought the Government s reassurance that equity release was a safe, well-regulated product that might legitimately be considered in the planning of retirement income. 3

33 The burden of risk and responsibility for financing old age continues to shift from the state and employers to the individual. Without an open public debate about this transfer and access to high-quality information and advice, individuals will not be empowered to make the best use of their resources. The impact on public policy of improving retirement income by making housing equity more liquid would be felt in a number of areas. Pensioner poverty is both damaging to the individual and a drag on the economy. Lack of income is linked to poorer health outcomes, that in turn increases costs for the health service and place greater demands on state welfare provision. If people are able to secure the income to enable them to stay in their own homes, adequately maintained and heated, with necessary adaptations and domiciliary care to support those with long-term medical conditions, both the individual and the state benefit. Equity release is one solution that can potentially alleviate some of the expected marked increase in the number of pensioners in poverty in the future. This report seeks to quantify how many future pensioners the product could lift out of poverty between 212 and 24. If the equity release market grows according to scenarios for future sales and new customers profile are similar to Just Retirement s existing clientele, it is estimated equity release could potentially raise some 1,9, pensioner households out of poverty for a year between 212 and 24 Equity release is a relatively new product. Supply-side and demand-side developments mean it will evolve in the future. If customers select a drawdown product offering 5, each year for 12 years, it could potentially raise between 3.8 and 22.8 million pensioner households out of poverty for a year by 24. Higher levels of equity release would generate modest macroeconomic benefits over the longer term. These benefits would accrue from allowing households to make use of capital which would otherwise be tied up in residential property. One scenario for equity release suggests it may generate an extra.2 percentage points of GDP by 24. This additional output would also generate around 22, new jobs and produce an uplift in government revenues. 31

34 About Just Retirement Just Retirement is a specialist provider of financial services for people at and in retirement. We have developed intellectual property in understanding how people s medical conditions and lifestyle impacts their life expectancy. Applying this intelligence enables Just Retirement to create a personalised rate for the customer and deliver higher levels of retirement income compared to standard annuities. For further information contact Stephen Lowe Group External Affairs & Customer Insight Director stephen.lowe@justretirement.com m: Nicky Edwards Head of Public Affairs nicky.edwards@justretirement.com m: In less than a decade since we started in 24 we have grown to become the largest provider of enhanced annuities and the second largest provider of equity release mortgages in the UK.* In 21 we helped our 1, th customer towards the retirement they hoped for an achievement we re particularly proud of as we re still a comparatively young company. Just Retirement campaigns for people to get a better income in retirement. We work tirelessly to ensure more people are encouraged to shop around the market to attain an improved financial outcome. Housing equity withdrawal is an important additional resource that would enable many people to fund a decent life in retirement that their pensions alone would not support. Our equity release mortgages have unlocked cash from the homes of nearly 2, customers, to improve their lifestyle in retirement. *ABI and Equity Release Council data for year 211 Member of 32