Do You Pay Tax on Equity Release? Quick Answer
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Do you pay tax on equity release? This is a common question asked by homeowners considering releasing equity. We discuss if the money you receive is subject to any type of taxation and how it is possible to use equity release to rescue inheritance tax.
What is equity release?
Equity release is a type of loan secured by some or all of your property which never has to be repaid until the home is sold, usually when you die or move into aged care. After accessing the money, you can continue living in the property and cannot be forced out, as per the Equity Release Council.
Equity release is only available to people of a certain age who are releasing equity from their main residential home. You typically have to be 55 or even 65 to use an equity release plan. There are two main ways to release equity in the UK, namely through lifetime mortgages or home reversion schemes.
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Lifetime mortgage Vs Home reversion scheme
A lifetime mortgage is the most common method of releasing equity. It allows you to release some equity for a proportion or all of your home and receive a lump sum. Fixed interest is applied to this loan and accumulates over time. You continue to live in the property and do not need to make any repayments on the loan amount or the interest until the home is sold.
It is sometimes possible to pay the interest back if you wish, but you will never owe more than what the home is worth and sold for, meaning your estate beneficiaries won’t have to pay any shortfall between the sale value and the total debt.
The other option is a home reversion scheme, which allows you to give up a percentage of your home for a fixed amount, paid as a lump sum or recurring payment. With a home reversion plan, you accept a much smaller payment for what the home is worth. For example, you might give up 60% for a 20% value. Again, you can continue living in the property and cannot be evicted.
What are the benefits of releasing equity?
There are a number of benefits in choosing to release equity:
- Receive a lump sum or you might even receive recurring payments
- You cannot be forced out of your home
- Don’t pay anything back until your home is sold
- Easy way to make you financially comfortable in later life
- You are protected by the Equity Release Council
- You can choose to make interest payments or not
Do I pay income tax on equity release?
You do not need to pay income tax on the money you receive from equity release schemes. Income tax is only subject to payments you receive from an employer or money received through self-employment as a sole trader.
Do you pay tax on releasing equity?
You do not need to pay any other type of tax on the lump sum amount or regular payments received from equity release schemes. If you sell a house for more than its purchasing price, you might owe Capital Gains Tax on the difference. However, equity release is not selling a house and is a type of loan. Therefore no Capital Gains Tax is owed.
How much tax do you pay on equity release?
There is absolutely no income tax, Capital Gains Tax or any other type of tax owed when you receive money when you use equity release schemes. One of the benefits of using equity release is that all the money received is tax-free.
Why is equity release not taxed?
The reason that you do not have to pay any type of tax on equity release is that equity release is formally a type of loan. The loan is secured against your property and the money has to be repaid. An equity release plan does not feel like a loan because you don’t make monthly repayments to pay it back – but that doesn’t mean it’s not a loan!
How can equity release be used to reduce inheritance tax?
It is possible for a lifetime mortgage to reduce inheritance tax (IHT) paid from your estate, but it should not be considered for this reason alone. In fact, doing it solely to reduce IHT could make your beneficiaries worse off.
Inheritance tax is a type of tax applied to someone’s estate and any financial gifts in the seven years prior to their death. It is applied to all estates unless the estate is to be solely handed over to the person’s spouse or civil partner.
If you are not passing your estate to a spouse or civil partner, possibly because they have already died, then inheritance tax may apply. Inheritance tax is only due on estates valued above £325,000 or £650,000 if you already received an estate from a spouse. Inheritance tax is charged at 40% above this amount only. However, the threshold can be increased by £150,000 per person if a property is left to a child or grandchild.
If you release equity and give some or all of the money to a family member, and then live for at least another seven years, then this money will not be subject to inheritance tax and could save your beneficiaries money if you have an estate that exceeds the inheritance tax threshold. Of course, there is an element of risk with this type of inheritance tax planning and you should discuss it further with an equity release adviser.
What is the catch with equity release?
If you fully understand how equity release works then there is no catch to equity release. Some people think the catch is that you are offered a significantly low amount for all or some of your home compared to its real value. Although this is a negative aspect of equity release, lenders must do this to protect themselves from your property declining in value over time.
To fully understand what equity release could mean for you, it’s strongly recommended that you do additional research and get financial advice from a provider that is authorised and regulated by the Financial Conduct Authority (FCA).
Do you pay tax on equity release UK? (Quick recap)
To recap, you do not need to pay any type of tax on equity release in the UK, including income tax or Capital Gains Tax (CGT). This is because releasing equity is taking out a secured loan and the cash lump sum must be repaid at a later date. It’s not the same as receiving an income or selling your property.
Discover more about equity release!
Find out how much you could get if you release equity and much more by reading our other MoneyNerd guides. We have plenty more new and free guides discussing the different aspects of equity release in the UK. From how it affects means-tested benefits to the value of your estate, learn more with us!