equity release and inheritance tax

Equity release grows in popularity year after year. House prices increasing and that has meant many older homeowners have plenty of equity whilst the younger generation struggles to get onto the housing ladder.

One of the solutions has been to release some of that equity and pass this on as a gift to relatives.

It's important to be aware of the risk of inheritance tax doing this, and if there are any other alternatives to consider if gifting a deposit is your intention.

In this insight, we will clarify the details surrounding equity release and inheritance tax.

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Key Takeaways

• Equity release can be used to provide an improved retirement.
• The act of releasing equity is not taxable, but you may need to pay tax depending on how you use the money.
• If you gift money above the threshold, you need to survive for 7 years, otherwise, inheritance tax could become liable.
• The only way equity release can reduce inheritance tax is by spending the money!

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What is Equity Release?

Equity release is a type of borrowing used in later life. It is available for homeowners aged 55 and older. It involves using your home to borrow money. You can either secure a loan against the equity in your house, or sell a percentage of your home. You do not make repayments with Equity release and the loans, plus interest, are repaid from the sale of the house after death.

Why use Equity release?

Many homeowners are turning to equity release to help them improve their retirement. If you have no plans to move home, but a lack of savings. You may find yourself sitting on an untapped resource… your property.

You can typically access a meaningful share of your property's value through equity release, and these funds can be used how you wish. Before going ahead, it's worth weighing up the pros and cons of equity release.

Another reason homeowners are turning to equity release is to gift the money to relatives. If you have children or grandchildren looking to get onto the property ladder, the money can be used as a deposit.

If you do gift the money, you need to be aware that you could fall foul of HMRC and inheritance tax.

Looking For Equity Release Advice?

If you're thinking about releasing equity from your property, but unsure where to start?

We can help you find an equity release specialist to offer you the very best advice. Complete our Sunny Fact Find form to provide us a bit more detail about your circumstances and we'll find the best-suited adviser for your needs.

Your appointed adviser will contact you to discuss how they can help, you decide how to proceed.

What is Inheritance Tax?

Inheritance Tax is often called the 'death tax'. A rate of up to 40% is payable on the part of an estate that falls above the tax-free thresholds. It must be paid by the end of the sixth month after the death of the estate holder. If you'd like the background on the tax itself, see our guide to why inheritance tax exists.

In the UK, you do not pay inheritance tax on estates valued below the nil-rate band. Once you factor in the additional residence nil-rate band, a married couple or civil partners can potentially pass on up to £1,000,000 tax-free, depending on what is included in the estate and who the beneficiaries are.

What is the gift allowance?

The allowable gift tax threshold is £3,000 per tax year. You can split this to different people so long as you do not exceed this value. You can also roll over any of your annual unused gift allowance for 1 further tax year. On weddings, you can gift up to £5,000 to your children, £2,500 to grandchildren and £1,000 to any other person and this is exempt.
In summary, if you are planning on gifting to your children, the gift won't become liable for inheritance tax if you stick to £3,000 annually or less.

How does Equity release impact inheritance tax?

There are three things to consider when looking into the impact equity release has on inheritance tax. That is the impact on the equity in the property, the impact on any cash left over, and the impact on any gifts.

Impact on the property

If you are over the inheritance tax brackets, the tax liability on your property will be based on the remaining equity. This is the difference between the property value and the debt amount outstanding on the equity release loan, plus the interest.

For example

if your property sells for £500,000. Your equity loan was 20% of that (£100,000), and the outstanding interest was £10,000. When the equity release loan and interest is paid back from the sale of the property, what is left will be liable for tax. In our example, that would leave a liable IHT due on £390,000.

You can pass your property to your children and receive relief. The above scenario will only apply if you leave your property to someone outside of your immediate family.

Impact on Cash remaining from Equity Release

If you have cash remaining from the release of equity, this will be included in the value of your estate. This means it will be included for inheritance tax calculations.
If you do have cash remaining in your estate, it might be that this money can be used to clear the equity release loan outstanding after death. However, Probate will be required before that can happen though.

Impact on gifts

If you used the equity release funds to make a gift, perhaps to grandchildren. You will need to survive 7 years after the gift was made to avoid the gift being part of your inheritance tax allowance. If you die within 7 years, taper relief may apply.

Taper relief means your tax rate is reduced year after year of surviving, up until after the 7th year, when 0% tax applies.

It is a good idea to plan for inheritance tax if you are expecting to be liable. There are possible strategies that can be used to reduce your liability.

Can Equity Release reduce inheritance tax liability?

Yes. Equity release debt will be calculated as a liability in your estate. If you have spent the money from the equity release on anything that is not treated as an asset, you will not pay IHT on it. This would be the same logic as if you sold your house and spent all the money on holidays.
Equity Release and inheritance tax

In summary, releasing equity is not taxed. How you choose to use, or not use the money could land your family with an inheritance tax bill. It is particularly important to make them aware of the 7 year inheritance tax liability. You can seek financial advice to discuss your options before making a gift. You may be able to consider utilising trusts as an option. A financial adviser's job is to make you aware of all your options before proceeding with a financial decision like making a gift.

Looking For Inheritance Tax Planning Advice?

If you're considering your inheritance tax liability, you may be wondering how to best manage it... Now is a good time to seek financial advice. Financial advice helps you to review your retirement, tax, and investment needs.

We can help you find a financial adviser to offer you the very financial advice. Complete our Sunny Fact Find form to provide us a bit more detail about your circumstances and we'll find the best-suited adviser for your needs.

Your appointed adviser will contact you to discuss how they can help, you decide how to proceed. This service is free.

FAQs

What is inheritance protection with equity release?

Some equity release lenders allow you to include inheritance protection in your policy. Inheritance protection allows you to guarantee a percentage of your home gets passed on to your beneficiaries. This is regardless of how house prices move. Even if they drop so much there isn't enough to repay the loan, you will still pass on the desired percentage.

Is equity release safe?

Yes. Equity release is safe. Both types of equity release are regulated by the FCA. The equity release council also exists to maintain high standards of advice in the industry. Advisers are qualified to provide advice and the equity release council requires borrowers to seek legal advice when taking an equity release product.

Can you gift your home to your grandchildren?

If you give away your home as a gift and you die within seven years of making the gift, the home may be included in your estate for inheritance tax purposes.

If you survive the 7-year period, there is no tax payable on the gift.

If you sell the property at a discount, and pass away during the 7-years, inheritance tax will be due on the difference between the purchase price value and market value.