Using a Lifetime Mortgage To Oil The Wheels of Divorce Settlements
Divorce can be emotionally and financially traumatic. And when it comes to dividing up assets, there are often both financial and highly personal or sentimental factors at play.
Let’s take a look at three of the most important assets in many cases:
- The main residence
- The pension fund
- The private business
Generally speaking, all of these will be taken into account when deciding the value each party will receive in the divorce. However, many couples will have particular requirements or needs relating to particular assets.
Let’s turn to the main home first. It’s pretty easy if neither party wants to live in the ex-marital home. The property can be sold and the proceeds divided up, or the liquid funds taken into account when deciding who gets what from the overall “asset pool”.
In some cases though, it may be that one of the parties has a strong desire or need to remain in the home, but other assets aren’t enough or are inappropriate to compensate the exiting party. In this instance a lifetime mortgage (LTM) could help for older (55 and above) couples. The mortgage would provide a cash lump sum to the leaving party, perhaps to finance a purchase of their own property. The remaining occupant would own the former matrimonial home subject to a long-term loan on the value of the home where interest is added each year both to the initial loan and any interest added which quickly increases the amount that is owed. The loan does not need to be repaid until usually when the homeowner dies or goes into long-term care. Unlike a residential mortgage, there is no regular repayments so therefore no drain on their income: an attractive option from a cash flow standpoint. However, voluntary repayments can be made of up to 10% of the loan value each policy year. OK, the net value of the property when it’s sold or transferred will be lower, but the immediate outcome suits both parties‘ post-divorce goals. A no negative equity guarantee, offered by all members of the Equity Release Council, means your client (or the estate) won’t have to pay back more than the property’s sold for, as long as it’s sold for the best price reasonably obtainable.
If the couple’s children are to inherit, while they would receive a lower net value property from the remaining parent, they may inherit a compensating interest in a new property bought by the leaving parent. Some providers offer an optional inheritance guarantee, which allows them to safeguard a percentage of the property’s value. Of course, nothing is certain about future inheritance, especially when the divorcing couple form new relationships – but at least the lifetime mortgage provides a solution that may really work for the couple at a difficult time. It’s a solution that doesn’t diminish the net income of the remaining person, which would happen with a traditional repayment remortgage.
The lifetime mortgage debt will inevitably also reduce the value of the property for inheritance tax and this could be important in the future if the residence nil rate band is restricted or not available (the band relates to the net property value). The mortgage could also restore some or all of the residence nil rate if the debt brings the net value of the estate down below the £2 million taper threshold.
So how about pension funds?
For practitioners in this difficult field, pension sharing orders and everything that goes with them will be familiar. For the person who “loses” a material share of their pension fund this can be both financially and psychologically damaging. The latter is key if the pension fund is an important part of a “peace of mind” aspect of the individual’s financial future. We all know the psychological damage that can be caused by seeing the value of an important financial asset fall dramatically. Seeing a 50% drop in your pension value could definitely have this effect.
Once again, an LTM may help here. The LTM will reduce the taxable value of the property it is secured on (especially valuable regarding the extent the residence nil rate band is tapered away). However, the LTM can release funds to provide an alternative to pension sharing, which will be of greater importance. The recipient of those funds can, of course, (subject to the usual limitations) make their own retirement arrangements. Meanwhile, the existing pension asset remains fully intact for its current owner, avoiding potential fragmentation. And with interest rolling up, naturally there would be no impact on the current income of either party. The borrowing (via the LTM) would effectively allow the occupier to retain their invested funds in a tax efficient home. But the other party would be able to use the liquidity secured from the LTM to make their own arrangements – pension or otherwise. Of course, each case would depend on its own facts and advice would be essential. In other words, different strokes for different folks.
And then there’s the business
It’s likely (though not inevitable) that if there’s an interest in a family business it will be the prime concern of one of the couple.
In that sense, it’s not unlike the situation that occurs on the death of one of several owners of a private business, where the deceased’s family don’t want to be involved in the business but do want to receive the appropriate slice of its value. Where this is anticipated, arrangements are put in place to generate funds (typically through a life policy in trust) to enable the remaining business owners to buy the deceased’s share.
In the case of a divorce, a lifetime mortgage could be a way for the main business owner to release funds to accommodate their ex-spouse but retain full ownership of the business. And, as for all LTMs, the interest rolls up and does not impact current income.
Keep a lifetime mortgage in mind
Using the lifetime mortgage in divorce settlements can generate some useful solutions that meet the needs of each of a couple. Yes, there is a cost, but it’s effectively deferred and there’s no impact on either party’s income.
While using an LTM as a planning tool in divorce settlements won’t work or be appropriate for everyone, it should definitely be included in the range of possible solutions to be considered in appropriate circumstances – especially those outlined above.
This information has not been approved for use with customers and is based on Aviva’s interpretation of current law and legislation, and our understanding of HM Revenue & Customs (HMRC) practice as at 6 April 2022. It is provided for general information purposes only and should not be relied upon in place of legal or other professional advice. Both the law and HMRC practice will change from time to time and our interpretation may be subject to challenge by HMRC or other regulatory body. Aviva cannot act as legal adviser for you or your clients. You should always seek appropriate legal or other professional advice.