Navigating Inheritance Tax through later-life mortgages

Taking out a mortgage in later life to bypass Inheritance Tax (IHT) is an option that some over-60s may look to consider if appropriate to their situation. This approach could potentially significantly reduce a potential IHT liability when passing on assets or property to family members after one’s demise.

IHT is levied on the entire value of an individual’s estate after their death, encompassing assets such as property, possessions and cash. The current IHT rate stands at 40%, applicable only to the portion of the estate exceeding the tax-free Nil Rate Band threshold of £325,000 for the tax year 2024/25.

CONDITIONS THAT EXEMPT YOUR ESTATE FROM IHT

Several conditions can exempt your estate from this tax: if your estate’s total value is below the £325,000 threshold, if you leave everything above the threshold to your spouse or registered civil partner, or if you leave everything above the threshold to an exempt beneficiary, like a charity.

If you pass your home to your children or grandchildren, the threshold may increase to £500,000. For example, with an estate valued at £525,000 and an IHT threshold of £325,000, the taxable portion would be £200,000, resulting in IHT due of £80,000.

REDUCING ESTATE VALUE THROUGH MORTGAGES

Transferring a home to a spouse or registered civil partner upon death does not trigger IHT. However, leaving the home to another individual contributes to the estate’s total value. The Residence Nil Rate Band (RNRB) provides an exception, increasing your tax-free threshold if you leave your residence to your children or grandchildren.

This includes stepchildren, adopted children and foster children but excludes nieces, nephews and siblings. The total estate value exceeding £2 million sees a gradual reduction in the home allowance.

DIMINISHING THE IHT AMOUNT

The Finance Bill 2021 confirmed that IHT Nil Rate Bands will remain constant until April 2026, allowing for a £175,000 IHT-free allowance when transferring a home to a direct descendant in the 2024/25 tax year. Taking out a mortgage could reduce an individual’s estate, diminishing the IHT amount.

This may be particularly beneficial for property owners whose assets exceed the threshold but who wish to minimise the financial burden on their families. For instance, a parent with a £400,000 house could secure a £150,000 mortgage, effectively reducing the estate’s value to £250,000 – below the threshold and exempt from IHT.

PROFESSIONAL ADVICE IS ESSENTIAL

While securing a mortgage later in life can offer more competitive interest rates and reduce IHT liabilities, it is crucial to consider all implications before proceeding. Borrowing at an advanced age comes with risks, so seeking professional advice is imperative. This step ensures that individuals can make the most of their financial assets without inadvertently complicating their estate planning.

For those considering this strategy as part of their IHT planning, the adviser can provide tailored advice based on your specific circumstances, helping you navigate the complexities of IHT and ensuring your loved ones are adequately provided for.

Don’t forget, our professional friendly advisors are on hand to support you and can help you explore all of your options.