It’s not often that retirees might regard a drop in interest rates as a good thing (and we’ve got another Reserve Bank of Australia rates decision tomorrow!) but there has been one recent drop in rates that you may find helpful.
That’s the drop in the interest rate the government charges on the Pension Loans Scheme (PLS), which was cut last month from 5.25 per cent a year to 4.5 per cent a year.
This means you can borrow against the equity in your home to create an extra retirement income stream more cheaply than you could last year – leaving you with a smaller debt to repay down the track.
The PLS is basically a reverse mortgage from the government (you can read more about how it works here), except you can’t receive a lump sum. Instead, the PLS allows you to top up your income with a fortnightly payment of up 150 per cent of the eligible Age Pension.
At the moment the maximum fortnightly PLS payment for people eligible for the Age Pension is $1,400 for singles and each member of a couple separated by illness, and $2,110 for a couple.
If you receive a pension from Centrelink or the Department of Veterans Affairs, your actual pension reduces the amount you can borrow via the PLS so, for example if you’re a single Age Pensioner receiving $800 per fortnight, the maximum amount you can receive through the PLS is $600 per fortnight.
Your age and, if applicable, that of your partner, as well as the value of the property you are providing as security will determine the maximum loan value you can receive.
You will need to have ownership over the property you are providing as security, and the government will take a charge or caveat against it to secure the loan, so a granny flat, retirement village or land-lease community property arrangement is unlikely to qualify. But you don’t need to be an Age Pensioner to borrow through the PLS.
For people already receiving payments through the PLS, the lower rate of interest has already taken effect.
For people thinking about using the PLS, it’s important to understand that PLS interest compounds fortnightly, so every two weeks you pay interest on the balance of your loan, including interest on the payments you have previously received.
This example of a self-funded retiree couple who borrowed the maximum payment of $2,110 a fortnight shows how the lower interest rate just introduced can make thousands of dollars’ difference to their total debt. At the old interest rate, their debt would be almost $314,000 in five years’ time, while under the new rate it would be just shy of $308,000.
You can repay your PLS debt at any time but for most people this will be years down the track when their home is sold. If you pass away before your debt is repaid, the government will expect the executor of your estate to arrange for payment of the loan.
So a lower interest rate for the PLS is good news because it means that your debt won’t build up as quickly and, in turn, you or your beneficiaries will have less to repay when your home is sold.
As usual, though, there are a few important things to remember. The recent cuts in the cash rate by the RBA caused the PLS rate drop but the cash rate can change and if interest rates were to go back up, you could expect the PLS to do the same.
No borrowing – against your home or otherwise – should be undertaken without careful thought. But if you need an income boost, the PLS is among the options you can consider.