Equity release and inheritance tax

What is equity release?

For homeowners aged over 55, equity release is the option to include property wealth in your wider financial planning. You can borrow money from your home's value to help with:

• Paying off an existing mortgage
• Funding long-awaited home improvements
• Gifting an early inheritance
• Making a large purchase
• Reducing Inheritance Tax liability
• And many more.

Picture what your retirement could look like as you tick off your aspirations and goals.

The most popular type of equity release is a Lifetime Mortgage. It's a long-term mortgage secured against your home and isn't due to be repaid until you die or enter long-term care. Borrowing a lump sum in this way may affect your entitlement to means-tested benefits.

Interest adds to your loan and compounds over time. It's entirely up to you whether you make payments in your lifetime.

When is Inheritance Tax due?

Inheritance Tax only becomes due if your estate is worth more than £325,000. If you're married, you may be able to combine your thresholds by leaving everything to one another in your Will.

Anything above the threshold is taxed at 40%. Other rules may apply depending on your situation.

For example, no IHT is normally due if everything above the threshold is left to your spouse or civil partner. Your threshold might also be increased to £500,000 should you leave your home to your children or grandchildren.  

Once they become responsible for the estate, your beneficiaries must pay the tax by the end of the 6^th month after your death. HMRC charges interest if the tax isn't paid on time.

Is equity release tax free?

There is no tax to pay on equity release because:

• Equity release is a loan secured against your home, like a residential mortgage
• It is essentially withdrawing cash that is already yours from the equity in your home. 

Tax may be due on the way you choose to use the cash released, for example if you make a gift. Inheritance Tax may be due if you die within 7 years of making it.

Does equity release reduce the Inheritance Tax you have to pay?

The amount of Inheritance Tax due is related to the size of your estate. This is calculated as the sum total of your assets and liquid cash minus any debts you are yet to pay.

Taking money from your home's value lowers the value of your estate.

Everyone's circumstances are unique, and how you structure your estate can affect the amount of IHT due. Let's take a simplified example.

Mr. Jones is single and owns a home worth £450,000. He also has other assets totalling £125,000. He decides to consider equity release. If he dies owing £120,000 in the future, that amount would be owed to the lender.

In this case, equity release could potentially save Mr. Jones £48,000 in Inheritance Tax, while also giving him the opportunity to enjoy the money released and achieve his goals now.

For some individuals, there may be an allowance for a "residence nil rate band", available when the home is gifted to a direct descendant. This can be £175,000, so in this instance Mr. Jones beneficiaries might even owe nothing if this was eligible to be applied in both circumstances.

Do bear in mind that the FCA do not regulate Inheritance Tax planning. Speak with an adviser qualified in Inheritance Tax planning if this is something you are interested in.

Can equity release provide inheritance protection?

You can future proof your plans by ring-fencing some of your home's value as a guaranteed inheritance. Some Lifetime Mortgage products will offer this, where you reduce the pool of equity available to you in favour of guaranteeing a sum to your loved ones.

If your home was worth £250,000, and you chose to ring-fence £25,000 as a guaranteed inheritance, then the equity release calculation would be completed on a property value of £225,000.

Inheriting a house with equity release

If you are the beneficiary of an estate and it includes a house with a Lifetime Mortgage secured against it, you might be wondering what happens once you inherit it. 

You will be responsible for settling the outstanding mortgage with the lender once the borrower has died or entered long-term care. Usually, lenders will allow a grace period of up to 12 months to arrange repayment but do keep in mind that interest will continue to be added during this time. You might choose to repay in the following ways:

• Selling the house – with a no-negative equity guarantee coming as standard with all products that Royal London Equity Release Advisers advise on, you will never owe more than the market value of the property. In the unlikely event the amount owed is above this figure, the remainder will be written off
• Remortgaging – if available to you, you could choose to remortgage the property under your name and take on responsibility for paying it off
• Pay it in full – if you have a cash lump sum or other assets available to you, and you want to keep the home within the family, you might choose to pay the outstanding mortgage off yourself.

Is equity release the best way to manage your Inheritance Tax planning?

In this article, equity release as an option to manage your estate planning has been introduced. But what other methods might be available? There are other considerations, including:

• Placing money into a trust
• Gifting money or assets to your loved ones now while you're still living
• Or drawing down from a pension
• For more information, you can read our retirement planning guides.

Royal London Equity Release Advisers can offer expert advice on the whole market of equity release products, as well as Retirement Interest-Only Mortgages and conventional borrowing. After completing a calculation, they can help you to book in a no-obligation consultation with one of their nationwide team.

This is the perfect opportunity to find out how your property wealth fits into your plans without making any commitment. No advice fee will be charged unless you decide one of the financial solutions is right for you and take out a product with your advisers help.

If you're interested in finding out how much you could borrow from your home with equity release, and therefore what kind of affect it could have on your estate's value, use Royal London Equity Release Advisers' calculator today.