November 2007

Keeping house

During a recent visit to a retirement village, I asked a retired surgeon "now that you've left your large family house, how do you manage when your children and grandchildren want to stay with you?"

"There comes a time in your life when you have to be selfish and put your interests first," he replied. "This apartment with one spare bedroom suits us perfectly."

Retirement villages are one option when the time comes to consider downsizing. Equity release is another, or moving to a less expensive area. Advisers need to examine all three options and their tax implications when advising clients.

Retirement villages, provided they are situated attractively and well managed, appeal to many retired people. "There are no worries either about maintenance, gardening, laundering, cleaning or emergency medical services," said the retired surgeon. "You can go away for weeks or months and just lock your front door and feel confident the place is safe."

Plugging the gap

Many retirees have invested in a pension scheme or a SIPP over many years and after downsizing may have released a sizeable sum from the sale of their house. In many cases financial advice will be required on investment and on mitigating the effect of inheritance tax. But now financial advisers need to be able to deal with at least two further problems: (1) employees who paid into a pension scheme over many years and then faced a situation where their former employer and pension scheme crashed; and (2) the growing army of owners or partners of small and medium sized businesses who have not been able to provide for a sensible pension or had to draw on their pension funds to ensure the survival of their companies.

With more people opting for self employment advisers will have to face a growing number of such cases.

'Many couples have accumulated significant wealth in their properties,' says Graham Bone, a consultant at Beacon Asset Management. 'Using some of this value may be necessary in providing sufficient income for retirement. In doing so they face two choices - sell and move to a cheaper property, reinvesting the proceeds for income; or use an equity release plan to release capital from the property. In theory, equity release may seem attractive as it provides the opportunity to remain in one's own home (and benefit from any capital growth accruing) while providing a capital sum to reinvest for income.

"Downsizing is the simplest and cleanest method of releasing capital from a property, but obviously there will be stamp duty, legal and moving costs. On the other hand there are no interest costs involved on an ongoing basis and for this reason it can prove to be the cheapest method in the long term."

Different choices

In my case, we are taking the downsizing route. How long it will take to sell our house and how much it will go for - who can tell? The estate agency's top brass were hugely optimistic and their valuation was just too tempting. Then their man came to measure up, followed by a photographer, a PR man and the man who put the 'for sale' sign up. Meanwhile we are looking at smaller houses, but can we find anything we like? No so far.

Should we have opted for an equity release scheme? We could have chosen one of a possible three - one which works on an interest roll up basis, one based on interest on the capital sum released from the property. In both cases you still own 100% of the equity and benefit from growth in the property's value. The third scheme involves a proportion of the house being sold in exchange for a capital lump sum, but this means you only benefit from growth in proportion to your share of the house.

At an early stage the likely impact of inheritance tax (IHT) needs to be considered. The rate of tax at 40% is charged on the value that exceeds the 'nil rate band'. "Many wills that I see show people leaving their assets to their spouse in the first instance and after that their children," says Nigel Stratton, senior consultant at IFG Financial Services. "This means the surviving spouse inherits, but this wastes the nil rate band since transfers between UK spouses are exempt,"

Therefore couples with an IHT problem should ensure their wills include an appropriate clause to create a discretionary will trust on the first death. This will mean annexing" £300,000 from the estate of the first to die. If cash, shares or other investments are not available, then the house may be used!

Wilf Altman
Freelance Journalist