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Equity release and inheritance tax explained

Your Money
Wednesday 16 August 2023

There’s plenty to consider when weighing up whether equity release is the right option for you.

On their own, equity release and inheritance tax can seem complicated enough but, when you're wondering how they influence each other, things get even more confusing.

In this guide, we’ll explain how equity release affects inheritance tax. We’ll also discuss the different factors that can have an influence and the steps you can take to protect your estate in a way that suits you.

But first, we’ll introduce what we mean by equity release and inheritance tax.

What is equity release?

Equity release allows you to unlock tax-free funds based on the value of your home. You can use the money you release in various ways, such as paying off existing loans, going travelling or gifting to a family member.

This is proving to be an option for people later in life. Data from the Equity Release Council reveals that, in the second quarter of 2022, more than 200 people per day chose equity release, withdrawing a total of £1.6 billion.

Bear in mind that you should always think carefully before securing a loan against your property. You must be at least 55 years old to qualify for equity release. There is no requirement to move home and there are two main types – home reversion plans and lifetime mortgages.

Home reversion plans

A home reversion plan involves you selling all or part of your home to a reversion company for a lower-than-market value.

You need to be aged 65 or over to qualify for a home reversion plan. There’s no interest to pay on the money released and no monthly payments to make. When the plan comes to an end, the home reversion provider takes its percentage share of the sale proceeds.


Lifetime mortgages

A lifetime mortgage is a loan against the value of your property. This is different to a home reversion plan in that you retain full ownership of the property. However, you will receive the funds in the form of either a single lump sum or a drawdown plan, in which you receive an initial lump sum then drawdown further amounts as and when you need them.

The loan plus roll-up interest is typically repaid when the plan comes to an end. This is usually when you or the last remaining applicant die or move into long-term care.

Key only provides lifetime mortgages. As such, we'll use the terms equity release and lifetime mortgages interchangeably throughout the rest of this article.

What is inheritance tax?

Inheritance tax is payable on someone’s estate when they pass away. The estate includes any property, vehicles, funds and other material assets such as jewellery or antiques.

Inheritance tax is currently paid at a rate of 40% on any value above the threshold of £325,000. However, there will usually not be any tax to pay on anything above the threshold that is left to a spouse, civil partner or charity.

The person left in charge of dealing with the estate is called the executor of the estate and they will typically be responsible for making the payment to HMRC.


How does equity release affect inheritance tax?

If you choose equity release, it’s important to bear in mind that it will have an impact on your estate when you pass away. It will reduce the value of your estate and how much your beneficiaries can inherit. And depending on the value of your estate, it could also affect the amount of inheritance tax you pay HMRC.


How does equity release affect inheritance?

Equity release reduces the value of your estate, as it's fundamentally a loan secured against your home that you agree to repay when you pass away. Typically, your house will be sold to cover the repayment and any value remaining goes to your beneficiaries.

Does equity release reduce inheritance tax?

Yes, equity release can reduce inheritance tax – and you can use it for this purpose if you deem it appropriate. You do, however, need to receive inheritance tax advice from a qualified tax adviser before speaking to an equity release adviser about this. Here's an explanation of how it works.

When you pass away, your inheritance tax bill is based on the value of your estate. This is calculated by subtracting your total liabilities from your total assets. An equity release plan classes as a liability, meaning that it reduces the value of your estate – and, therefore, your inheritance tax bill.

Yet you should bear in mind that, although using equity release can reduce your inheritance tax, it will also reduce the value of the estate to a large extent. It might only be beneficial if you plan on gifting the funds you release.

You also need to bear in mind that gifts are only tax-free if their total is less than the £325,000 inheritance tax threshold or if you live for seven years after giving them.

If, on the other hand, the gifts are over the threshold and you die before seven years have passed, you'll pay inheritance tax according to a sliding scale called 'taper relief'. The amount is based on the number of years between the gift and your death, ranging from 32% for a period of 3-4 years and 8% for 6-7 years. Any gifts given within three years of your death are taxable at the full 40%.


How can equity release provide inheritance protection?

There are some lifetime mortgage plans that can offer inheritance protection. This is a guarantee that allows you to ringfence a percentage of the future value of your home. This money can then go to your beneficiaries when the plan comes to an end – the inheritance amount will never be affected by how much of the loan is left to repay.

Let’s say that you are able to release £100,000. You decide that you don’t need all of that, so you choose to release £70,000 and leave the other 30%. That percentage of your home’s future value is safeguarded for your beneficiaries when the plan comes to an end.


How can we help?

Hopefully, you now have a clearer idea of how equity release and inheritance tax work and how one can impact the other.

If you’d like more guidance on this topic, then don’t hesitate to fill in our contact form or give us a call today on 0808 252 9170  to speak directly with a member of our expert team. We will take you through the different equity release options and help you find the most suitable plan.

Alternatively, use our equity release calculator to find out how much you could unlock.

Key do not offer tax advice; customers should consult with a qualified tax adviser for advice.

All our equity release advice relates to Key lifetime mortgages only - a loan secured against your home

  • Equity release will reduce your estate’s value and may affect your entitlement to means-tested benefits
  • A lifetime mortgage may result in limited or no property equity remaining and will reduce your financial options in the future
  • You should always think carefully before securing a loan against your home to repay existing debt
  • The loan, plus compound interest, is typically repaid through the sale of the property when the last remaining applicant passes away or moves into long-term care
  • £1,299 advice fee only payable on completion
Page last updated: Tuesday 16 April 2024