Should we be alarmed by the news that elderly homeowners are using home reversion schemes to repay their mortgages? Research from Bridgewater Equity Release shows that elderly home owners are selling stakes in their homes in order to pay off their home loans.

Bridgewater has been analysing why people take out home reversion plans and has found that paying off the mortgage emerged as the top reason for choosing home reversion plans, with almost 30% of customers last year planning to repay their mortgage with the cash released.

Home reversions allow the elderly homeowner to sell a part, or all, of their property, at a discount to the open market price. The amount you get depends on your age at the time of the home reversion and your life expectancy. This is not a loan and no interest is payable. The home reversion firm makes its money from the fact that it buys your property at a discount to the open market value and it benefits from any capital appreciation on its share of the property. The property is usually sold on the death of the owner but it can be sold before.

This could be a very sensible financial planning tool. Why not keep your free assets to provide income and leave the mortgage outstanding as a debt on your estate? If the mortgage lender insists on repayment, drag it out until the last minute and then do a home reversion plan to pay off the debt. This would leave you free to use your cash to provide income and pass it on to children and grandchildren. Provided you live for seven years from the date of the gift, the assets are outside your estate for inheritance tax purposes.

For example, take a divorced mother with a £1 million pound house with a mortgage of £200,000 and other assets of £400,000. If she uses her cash assets to pay off the mortgage of £200,000 it leaves her with only £200,000 to provide income. She will probably have to spend her capital to survive – and she will have a big Inheritance Tax liability assuming she has only £325,000 nil rate band to use.

But if she does a home reversion scheme to pay off the mortgage, it leaves her with £400,000 in cash to continue to provide income and the freedom to pass the cash on to children or grandchildren and potentially avoid Inheritance Tax on part of her estate. If she uses it to pay off the mortgage, unless at a later date she downsizes and releases cash, she won’t be able to pass on assets until her death. This could mean a big IHT bill so there are some interesting tax planning opportunities too.

Of course, it begs the question of why homeowners in retirement still have a mortgage. But with an increasing number of parents raising further loans in order to provide the deposit for their offsprings’ first homes, a rising number of older people are likely to reach retirement still owing money on their properties. What the home reversion scheme is doing is allowing them to pass on money during their lifetime – perhaps when their children need it most – rather than forcing them to wait until they die to inherit.

Bridgewater’s research also shows that 15% use home reversion plans to consolidate debts other than their mortgage while 6.5% use the released funds to boost their retirement income. Home reversion looks increasingly attractive compared with equity release if you take the view that house prices are not going to climb as fast as they did in the nineties.