Do you pay tax on equity release in the UK
What is equity release?
Equity release is a way of releasing money from your property without selling it. This can be useful if you need money for something, such as paying for care, modifying your home or having money to enjoy your retirement, but don’t want to leave the house. An equity release scheme could give you up to 100% of the value of your property, but there are conditions.
You can use an equity release calculator to see how much money you can borrow.
Topics that you will find covered on this page
You can listen to an audio recording of this page below.
Do you pay tax on equity release?
No. You don’t pay income tax or capital gains tax on the money you get from an equity release scheme.
However, owing a larger amount will result in additional interest charges, so you should be certain you fully understand the tax implications of equity release before moving forward.
An increasing number of older homeowners are inquiring about equity release schemes to unlock wealth from their homes, and many of them are also asking: “Do you pay tax on equity release?”
The effect of equity release on a homeowner’s estate is to allow asset-rich individuals to profit tax-free from their property taxes through either a cash lump sum or smaller instalments over time. While there are no tax consequences, homeowners will have to pay interest on the freed equity. This interest will accumulate over time, so releasing equity may help you lower your inheritance.
You must also bear in mind that if you obtain any interest on your savings as a result of the equity you release, you may be required to pay tax on this. Although most equity release advisors would advise against releasing equity to improve your financial reserves because the interest charged on the loan is likely to exceed that earned on your savings.
Do you pay Income Tax on equity release?
Equity Release is tax-free because it’s not considered taxable income; rather, it’s a loan like a residential mortgage or a student mortgage or a student mortgage. Even if you use Equity Release to supplement your income, you will not be taxed.
A reserve facility is another element that many equity release plans include. Draw-down plans are often referred to as equity release plans with reserve facilities.
A draw-down plan allows you to withdraw money from your property in small amounts as needed. The reserve account is non-interest bearing and holds cash that you don’t require right away. It’s similar to a savings account in some ways. You can withdraw funds from it whenever you need them, which is typically in minimum £2,000 chunks.
You aren’t charged interest for the amount in the draw-down until you withdraw the funds. As a result, they might be ideal for when you don’t want to spend all of your money immediately, but intend to use it in the future. If you invest money, for example, into a savings account and earn any interest, that income may be taxed.
Do you pay Capital Gains Tax (CGT) on equity release?
CGT is a tax that is frequently linked with properties since they are often high-value assets. When you sell an asset and realise a profit, you incur CGT. Over the last several years, property values have increased, allowing you to make much greater returns compared to what you paid for a property.
You may believe that CGT would be charged if you sold your home because it is an asset. However, your primary residence property is completely exempt from tax because of “Private Residence Relief.”
Second homes or buy-to-let properties also allow for equity release. Even equity release on these properties will be completely free of Capital Gains Tax, even though they are not your primary residence. This is due to the fact that just as with any other sale of an asset, such as if you decide to sell the property, Capital Gains Tax would only be levied on the disposal of the asset.
Because they have no effect on the property’s value, equity release plans are completely free of any CGT responsibilities.
Equity release and inheritance tax
If you release equity from your house, the value of your estate will be reduced, so it may help you avoid paying IHT (inheritance tax) when you die. Currently, inheritance tax is charged at a rate of 40% on any portion of your estate above £325,000. If you leave everything to your spouse or civil partner and do not use your £325,000 threshold, the unused amount will be passed on to them. The amount beyond which inheritance tax would be levied might rise to as much as £650,000 after this.
Some people find that selling equity to provide an early inheritance to their loved ones is a good idea. They may assist their children and grandchildren with a deposit for their first home, as well as pay for a wedding or allow them to live more comfortably. Furthermore, you can support your family by trying to ensure that they spend the cash wisely by giving them the money now while you are alive.
An Inheritance Tax (IHT) Example No Equity Release
Your property is worth £600,000, and you have £100,000 in investments, savings, and other assets (including your car, jewellery and furniture in the home). Therefore your total estate is worth £700,000 (including your property). You also have no existing mortgages.
Estate worth £700,000 minus the Inheritance Tax threshold of £325,000 = £375,000.
Inheritance Tax is currently at a rate of 40%.
Therefore, the total Inheritance Tax to be paid is £150,000. However, please note that any changes to your personal circumstances could also impact this.
"Equity release is a way of releasing money from your property without selling it."
How equity release can be used to reduce your IHT liability
We’ll use the same example as before. If you had a lifetime mortgage of £267,000 on that property and after five years at an interest rate of 4% (which is around the current average rate in the market) you owed just under £325,000, your fortunes would be reversed. This amount would be subtracted from your estate’s value.
You’d potentially only have to pay £30K in Inheritance Tax instead of £150,000 as in the above example. As ever, we would recommend that you speak to an equity release advisor or an estate planning specialist to make sure you understand the impact that it can have on your circumstances.
Don’t borrow all you need in one go
The sooner you borrow the money, the more expensive it is going to be for you. Because interest compounds slower the longer you wait to take out a loan, borrowing sooner is more expensive. So take only what you require now and wait as long as possible to borrow again. A drawdown lifetime mortgage is designed to make this process simpler.
Each of the leading equity release companies has different rules on what you can borrow. All the leading companies are also regulated by the financial conduct authority and should appear on the financial services register.A specialist will be able to talk you through the equity release costs involved in borrowing more than you may need. They will be in a position to give you the best advice possible for your circumstances.
What are the alternatives to equity release?
The most popular alternatives to equity release are downsizing, extending your mortgage or re-mortgaging. You may also choose to use a pension drawdown to release money from your pension assets without the complications of an equity release plan. Other options include trading in your property for a smaller one or moving into an appropriate retirement home.
Is releasing equity the right option for you?
Deciding whether equity release is right for you depends on your circumstances such as:
- your age
- your income
- how much money you want to release
- your plans for the future.
It’s tempting to focus on the immediate benefits of releasing equity in the short term, but you should consider how your future lifestyle and financial choices might be impacted.
Equity release and means tested benefits
Taking equity release could result in your entitlement to means-tested state benefits being reduced or removed. It can also have an effect on any funding you might receive for care services. Local authorities and the Government use your income and savings to decide if you need means tested state benefits.
What are the different types of equity release?
The most popular type of equity release is a lifetime mortgage. This gives you the opportunity to borrow against your property in return for monthly or lump sum payments which you can put towards later life expenses
With these plans, there are no set monthly repayments and you’re not obliged to take out an annuity with the cash if it isn’t needed.
The advantage of lifetime mortgages is that you can borrow with interest rates that are lower than in the past. This is because the lender takes security over your house, which is their main asset if you die or stop paying them back
With this type of plan you will need to be able to make repayments at any time if your life changes dramatically. Your home may also need to be re-valued periodically
Lifetime mortgages are only available on certain properties.
The other option is to look at home reversion plans. These are suitable for people who want a set monthly income after a certain period of time or an income which is guaranteed to be the same within a certain timeframe.
With this type of plan, you can typically release up to 40% equity from your home. But unlike lifetime mortgages, you’re not allowed to take out interest-only repayments on these plans You need to repay the loan in a certain period of time or when you want to move
Any cash taken from this type of plan is free from income tax and capital gains tax. In addition, if you put your property on the market for less than it’s worth, your money won’t be liable to IHT
However, interest will still accrue on your money while it remains invested in this plan. Your estate may also have to pay inheritance tax on the equity that has been released depending on how much was taken out and who gets their hands on it. So it’s important that you get professional advice before moving forward with any equity release plans.
What are the pros of equity release?
One of the biggest advantages is that equity release will give you access to money which you otherwise wouldn’t have. For many people, this is invaluable if they need it for something like medical expenses or long-term care You can also use your equity release to buy your children their first home or certainly help them with the deposit.
Other advantages are that equity release will give you tax-free cash or that it may reduce your potential inheritance tax bill. Your estate will only be liable to inheritance tax on the value of your house over and above a certain threshold and borrowing money which you repay in advance won’t affect this amount
There are also no set monthly repayments so you can request a lump sum if needed or put an end date on when you would like the money to be repaid. You could use this with emergencies such as needing to go into hospital for an operation or if you need long term care
What is the catch with equity release?
While equity release will give you completely tax-free cash and help reduce your potential inheritance tax bill, it does mean that you will no longer own your home. If you move out, the property may need to be sold.
So if you want to live in the property for a long time, equity release might not be a suitable option.
Even if you repay the equity loan in full before your death, there’s a chance that your relatives will lose out on inheritance money because of the amount they borrowed through equity release – even if it’s been paid back in advance. In this situation, after any funds obtained through equity release have been deducted, your estate may only be taxed on the value of your home.
If you decide to make additional repayments on an interest-only basis and then decide not to go ahead with the plan, you could end up owing more than expected due to increased interest rates and charges. So before taking out any loan it’s important to seek professional financial advice.
Frequently Asked Questions
What is equity release?
Equity release is a way of releasing money from your property without selling it. This can be useful if you need money for something, such as paying for care, modifying your home, or having money to enjoy your retirement, but don’t want to leave the house.
Do you pay tax on equity release?
No. You don’t pay income tax or capital gains tax on the money you get from an equity release scheme.
Do you pay Income Tax on equity release?
Equity Release is tax-free because it’s not considered taxable income; rather, it’s a loan like a residential mortgage.
What are the alternatives to equity release?
The most popular alternatives to equity release are downsizing, extending your mortgage or re-mortgaging.
