What Is a Pension Mortgage?
With a conventional mortgage, you make regular payments over the life of the loan to reduce the loan balance slowly over time. With a pension mortgage, your regular repayments go toward paying the interest and your pension. Although pension mortgages are common in the United Kingdom, they are virtually unknown in the United States of America.
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Payments During Loan Life
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During the life of a pension mortgage, you make regular repayments like you would do with a conventional mortgage. However, a portion of your repayment goes toward the interest and the rest goes toward your pension. As such, the balance of the mortgage amount itself remains the same throughout the life of the loan. In some cases, a portion of the pension mortgage also goes into insurance to pay off the loan in case of death.
Payment at Retirement
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At retirement, you take out a portion of your pension, usually 25 percent, to pay off the entire balance of the mortgage. You can use the rest of your pension to buy an annuity to fund your retirement. Because you have to access your pension fund to repay the loan, the end of the mortgage term has to coincide with you reaching retirement age or later.
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Benefits
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Your pension grows as you make more payments toward your mortgage. Because most institutions require that you contribute at least twice the loan amount to your pension plan, a pension mortgage also forces you to save for your retirement. A pension mortgage has tax benefits because you get tax relief on pension contributions. You also don't have to pay taxes on the growth of the money in your pension and the lump sum that you take out to pay off the loan at the end of the loan term.
Drawbacks
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It is possible that your pension will not cover your outstanding mortgage amount if interest rates fall and the pension funds do not grow as much as the lender expected at the beginning of the loan period. If this happens, you may be left with a large debt at retirement with no source of income. As a result, you may have to delay your retirement. If you expect your pension to not be able to cover your mortgage amount, you may have to start making larger payments.
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References
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