In this series, we’re exploring the hidden value of mortgage advice.
Often, when people think about the benefits of a mortgage advisor, the cliched norms of being whole of the market, having insider knowledge and getting the best deals are what spring to mind.
We like to think about getting a little off the rate, some lower arrangement fees or being guided on the pitfalls of certain products. But what about the transaction itself as a whole?
The real value of advice could be much more significant, like hundreds of thousands of pounds more.
We can all be a bit rate-obsessed and inclined to focus on the most apparent numbers, but the biggest risks to consumers are often those least apparent.
Most customers might only have one transaction in a lifetime where their choices may have such extreme consequences, but would you know enough to see those pitfalls when they exist?
Recently, I spoke to clients intending to buy a property in a sole name, as unmarried partners. And the potential impacts of that decision troubled me.
Like many customers, as his spouse had recently ceased employment, he thought it best to apply in sole name. Whether for simplicity’s sake or because he assumed it had to be a sole application.
Many people think that without an income, you cannot be an applicant; in truth, it would limit the maximum loan a little, but for most people, it is unlikely to jeopardise their application.
Anyway, that’s what a mortgage advisor is for, to advise, even if that means discussing two scenarios.
But this decision could have far-reaching consequences outside of mortgage lending, so I would immediately advise them to get tax, inheritance planning, and legal advice about other ramifications.
So what difference would it have made applying in sole names, and could it go monumentally wrong?
Now, we are not tax specialists, but my understanding of the tax position on this application would be as follows:
If you are neither married nor civil partners, you don’t benefit from joint inheritance tax thresholds totalling £650k, and you also lose the joint-main residence allowance totalling £1 million.
You can’t have joint ownership without a joint mortgage, and there is no such thing as a “common law” marriage outside of divorce settlements.
It’s fair to assume that tax allowances and property values will increase over time. But based on the purchase price of £600k and today’s tax allowances, we get an analogue of how future costs might stack up.
Whether or not they have a valid will, they may only use the applicant’s IHT allowance to pass the property onto children. As his partner never went onto the ownership of the property, her £325k allowance would effectively go unused if she died first.
In todays money, that would mean £110k of inheritance tax being liable by their children on death. However, if the applicant died first, leaving the whole property to his partner in his will, they could use both their allowances in series, but the two don’t combine in the way a married couple’s would; this could lead to paying even more inheritance tax.
So, a £110k payment would still be required, and that could force his partner to raise a lifetime mortgage or similar finance to pay the bill.
When she left the property to her children, the whole asset would be chargeable again, potentially leading to over £200k in inheritance tax plus any costs for financing the initial tax burden.
If they had arranged a suitable will, they could have avoided some of the tax by leaving half of the property value to the children and half to the partner, but ultimately still liable for the £110k.
That could also have its pitfalls to if the applicant died whilst the children were still minors (as raising any loan to pay the tax burden with a property co-owned by children is unlikely, if even possible).
If they had entered a joint mortgage, they could have split ownership 50/50 and used both of their £325k allowances to pass the property onto children with no IHT at all in today’s money.
Similarly, a civil partnership for tax purposes would allow larger benefits. That is relevant as it’s likely that this type of affluent customer ends up with further savings that may also pass to children, and could bear even more tax.
If they had arranged the mortgage in a sole name and had not made a valid will (its estimated that roughly 60% of people die without one), the consequences could be more dire.
If the applicant died first without a valid will, the ‘laws of intestacy’ would leave the property entirely to the children.
I am sure you can imagine that as the children would own the property (and if still minors, it would need to go into a legal trust to be held for them until they were 18), this scenario with a looming tax bill of £110k and a property you don’t technically own, would be about as much fun as DIY dentistry and something no one sane would even consider leaving as a possible pitfall.
There could be some benefits to keeping ownership in a sole name if the customers were likely to invest in other properties later, but this wasn’t the case at the time; either way, they would benefit from having been advised by a tax specialist so they could understand the options, and by a legal advisor so they would know the implications too.
One of those would also be that the partner was effectively gifting her deposit to the applicant and would likely need to sign various affidavits relinquishing her right to those funds, and residing in the property, potentially problematic in an acrimonious separation.
That all shows that arranging a mortgage can have wide-reaching technical consequences and huge financial impact, so if you’re working with a good adviser, you are much more likely to avoid catastrophe than if self-advising.
Whilst we aren’t tax or legal specialists, at least having someone with a moderate knowledge of the area is likely to catch situations that have huge risks attached and guide you to take further advice on those decisions that might be questionable.
Question; I have been advised to place my life insurance policy into a trust; why is this?
There are several reasons why some life insurance or assurance policies might be placed into a trust. Generally, they are to do with avoiding tax liabilities or ensuring that the proceeds of a policy will reach the intended recipient.
About two-thirds of people in the UK do not have a valid will and testament and die intestate, which is the term for an estate which does not have a valid will to determine where and how the estate proceeds will be divided up (sometimes there is a will in place which is no longer accurate and can be invalid for this reason too).
In this case, complex rules govern who receives the estate (the laws of intestacy), which could leave the proceeds of a life insurance policy to unintended recipients.
A good example is an unmarried couple who has arranged a life policy on the life of a breadwinner to repay the mortgage in the event of death. In this case, if there were no valid will in place, the proceeds would likely be passed on to the deceased person’s family; rather than the surviving partner, which could include children from a previous marriage, or the deceased person’s parents, for example.
That scenario could realistically lead to someone losing their family home.
In another scenario, a life policy intended to pay out to a couple’s children on the second death; to cover inheritance tax liabilities; would also become part of their estate and be liable to inheritance tax itself. Something placing the policy in trust could avoid.
The rules around the taxation of trusts change regularly, and mortgage advisors will recommend a regular review of your circumstances. A policy written into a trust may one day be better off outside of it, so it is vital to check regularly that existing provisions are still the most tax-efficient and prudent arrangements.
If you have a life insurance policy you think may need to be placed into a trust or to speak further to an advisor, call 0345 4594490 for independent advice.
This is an interesting question for me as it crops up quite a lot; however, remember that borrowing from a bank is not the same as depositing money.
Firstly, on the reasons you should use small regional lenders, they are currently leading the market in terms of mortgage and savings rates, and you may well find their customer service slightly more endearing than the bigger banks.
Small building societies are releasing very competitive products currently, and there is little reason to shy away from them.
Were your mortgage lender to fail, though, there would be very little likelihood of the administrators coming around with repossession orders (if the law even permitted them to do so).
Selling all the properties in an entire loan book would be ludicrously complex and likely produce a much lower return than simply selling the book of loans to another institution, which is commonplace trading among banks and institutional investors.
Even if no buyer were forthcoming to purchase the loan book, the administrators would likely let the book run and pass administration to an outsourcing firm; again quite common.
The current UK government has made it clear that it will not allow any financial institution in the UK to fail, regardless of its size. The FSCS or Financial Services Compensation Scheme, currently does not discriminate between the size of institutions either, so as long as the provider is a part of this scheme and falls under UK regulation, your protection as a consumer is equal regardless of an institution’s size.
Question; What is a higher lending charge, and how does it affect me as a borrower?
A higher lending charge is a fee lenders may apply to loans over a certain percentage of a property’s value (or loan-to-value).
For example, a lender may impose an extra charge on borrowers who borrow more than 80% of a property’s value, or perhaps more than 85% etc.
Often the fee will be a percentage of the amount of borrowing that exceeds this threshold.
A typical example would be a 5% charge on all lending over 80% of the property value. In this case, if your home was worth £100,000 and you borrowed £90,000, you would pay 5% of the £10,000 over and above the 80% limit, giving a higher lending charge of £500.
It’s important to consider how the fee is calculated, for each lender. It could be based on the whole loan, meaning the fee could be considerably higher than the example above.
Another important consideration is what the lender does with the fee.
Some lenders charge a fee to increase their profit margin on these loans to cover potential losses if they have to sell properties below market value at auction.
If the lender uses the fee to buy insurance, though, often referred to as a ‘Mortgage Indemnity Guarantee’ (which insures the lender against such losses), in the event of you handing back the keys and the property selling at a loss, the insurer would then have the right to pursue you for their losses under the ‘right of subrogation’.
The FSA forced lenders to stop referring to these charges as ‘Mortgage Indemnity Guarantee’ fees because it was worried that this gave the impression that such insurance policies would benefit the borrower, as well as the lender; so be aware that if you pay this fee or have done in the past, it will not protect you from the lender or insurer pursuing you for any outstanding balances should the property have to be sold at undervalue after repossession.
Capital gains tax is liable for gains made on certain non-exempt sales of assets at a current rate of 18%.
Your main residence is effectively exempt from Capital Gains Tax through tax relief; however, any second home or investment property will become liable for Capital Gains Tax from the date it is no longer your main home.
So if you bought a property as a second home or buy-to-let, then it is liable from the date of purchase; whereas, if you bought a property as your main home and subsequently moved to a new property letting the old one, the old property becomes liable to Capital Gains Tax from the date of transfer.
However, there is a 36-Month leeway given, so you owe Capital Gains tax on the property from 36 Months after its transfer to a buy-to-let.
Losses and expenses are offset against any gain. So keep a record of all your costs as a landlord, including maintenance bills, but not including your mortgage costs (mortgage interest is offset against income tax).
That means it is also worth having some form of valuation on the property at or around its 36th month as a let property to establish the value at its date of becoming liable.
You also have a personal Capital Gains Tax threshold of £10,100 currently, below which no tax is due, so if you are married or in a civil partnership having the property held on a “joint tenancy” or “tenancy in common” basis will allow you to use both your tax thresholds up to £20,200.
To work out any tax owed, take the sale value of the asset, less any costs and applicable tax threshold, and the value at its date of becoming liable, then multiply by 18%.
So if you let a property worth £120K in 2005 and sold it this year for £150K with costs in the four years of £3k, then you would owe £30K less £3K, less £10,100 which = £16,900 taxable gain. Then multiply £16,9K by 18%, giving tax due of £3,042.
In the same situation for a married couple where the property was held in joint names, you would instead take the gain of £30K less £3K costs, and £20,200 tax exemption giving £4,800 taxable and tax owed of £864.
Capital Gains Tax is a complex area, and there are other factors which may affect your tax liability. Remember that taxation policy can change in each government budget.
For more information or to speak to a mortgage broker, call 0345 4594490. Seek independent taxation advice for an exact analysis of your tax liability and guidance on tax mitigation.
