This article gives an explanation of what downsizing means, followed by an investigation of the pros and cons. It then assesses options for taking equity out of a home without selling it, before examining downsizing as part of a retirement plan and concludes with a market forecast.
So, if you are considering downsizing for whatever reason, read on to find out the facts!
What is downsizing?
Downsizing is usually considered when children grow up and move away, leaving homeowners feeling that their house is too big as they experience `empty nest syndrome.’ Downsizing, or moving to a smaller home, might make sense as part of an assessment of what homeowners really need; typically it could save money on utility bills and provide a more easily manageable property.
Many homeowners regard their house as form of pension and see downsizing to a smaller house as an inevitable part of their financial plan. Downsizing also happens for personal and social reasons, for financial considerations including property tax, or simply due to a desire to move to a more convenient location offering increased social interaction.
A Lloyds Bank survey found the main reason (53%) for downsizing was a change in circumstances, such as family members moving out, followed by finance and lifestyle. While the prospect of a smaller house makes sense for many, for others the idea of living in a smaller home is incredibly difficult; they may anticipate problems from having less space creating a storage situation, less family room and less square footage generally cramping their lifestyle.
The many advantages of downsizing:
- It may offer a better quality of life: for those living in a house that is too big and costly to run, downsizing may represent the opportunity to have extra money through reduced bills and more time for leisure or retirement.
- A smaller house means less time and money spent on maintenance, less cleaning, lower energy bills and an easier to manage garden.
- A move to an accessible town or village with facilities close at hand might offer a new social life and more time for hobbies. Buying a smaller home within walking distance of shops is attractive for many downsizers.
- Selling the family home and buying a `lock up and leave house’ could create a flexible lifestyle option if travel is attractive in retirement.
- A new house could be purchased with ancillary accommodation for a carer or guests.
- Moving to a town or city could make seeing close friends easier and offer the chance to enjoy cultural opportunities alongside easy proximity to shops and hospitals.
- Buy a retirement flat: purpose-built complexes offer company and community in older age.
- Pay off existing debt.
- Moving from a bigger house to a smaller home presents the opportunity to release equity to invest in other things: with the current low interest rates, a financial adviser could propose other investment options such as the stock market, corporate bonds or equity income funds to create an income. Professional financial advice should be sought. With the prospect of freeing up equity, a survey of over 2,000 people aged over 60 carried out by Churchill Retirement Living found that 28% would top up their pension; 41% would give a proportion to family members as inheritance; 29% would spend money on a family holiday and 7% would spend more money on social life.
- Unlock equity and help deal with potential inheritance tax (IHT) liability and estate planning. Cash from a house sale can be gifted to children or grandchildren during a lifetime; such gifts are counted as Potentially Exempt Transfers and do not count as part of an estate provided the giver lives for a further seven years after making the gift. Other IHT exempt annual gift allowances may be available: professional financial advice will be needed.
Reasons not to downsize:
- Some homeowners simply like their current house too much to move.
- Depending on an individual’s personal finance position, it may not be necessary to contemplate moving to a smaller house if financial considerations are not relevant.
- If it is not financially viable to move.
- Moving would remove the ability to host large family gatherings and living in a small house would prove restrictive.
- Funds can be generated from an existing home in other ways without selling it.
- The high costs of moving: this includes Stamp Duty, conveyancing fees, estate agents’ fees and the cost of removals.
Options for taking equity from a house or creating an income from it:
For homeowners who have equity but are cash poor, one alternative to moving to a smaller house is an interest-only mortgage. However, there is usually a maximum age limit of around 65-70 and it must be paid off by a specified age. Retirement Interest Only mortgages are available for retirees and have no upper age limits.
Equity release or taking out a lifetime mortgage:
This is available to over 55s; most schemes involve a lifetime mortgage plan with the debt secured against the existing home and the interests rolls up until the holder dies or sells. This option can be useful if a lump sum is needed. A lender advances a proportion of the equity tied up in a house, provided that the mortgage is paid off. The balance is repaid with interest on death or when the holder goes into care. Costs are attached to the arrangement and obviously, it results in there being less of an inheritance to leave.
Rent a room out to a lodger:
The Rent a Room scheme allows tax free earnings of £7,500 per year.
Rent out the large family home:
This offers the option of living off the rent to create an income, and then renting a smaller house. While getting off the property ladder in this way may not suit everyone, renting does help avoid stamp duty costs.
Downsizing in retirement
According to Helen Morrissey, senior pensions and retirement analyst at financial service company Hargreaves Lansdown, downsizing in retirement can make real sense financially.
“You may have paid off your mortgage on your family home and are looking to make the move to a smaller house better suited to your needs, i.e., a bungalow as opposed to a four bed, two storey house,” she said.
“You could potentially free up a decent amount of money to supplement your retirement income while also benefiting from lower bills and less maintenance costs. However, it is something that needs to be considered carefully. The costs of selling one home and buying another are high and could take a hefty chunk out of any profits you make. For instance, if you were to purchase a £400,000 home you would pay £10,000 in stamp duty alone. Add in estate agent fees, conveyancing and removal costs, then you could be looking at costs north of £20,000 so you need to take account of this.”
“You may also find moving becomes a very emotionally-charged decision. In recent Hargreaves Lansdown research, 28% of those who ruled out downsizing said it was because they were attached to their current home – they have made memories there and may not want to leave an area where they have built up a network of friends and family. Some will choose to release money from their home via equity release. This means they don’t have to sell up and move elsewhere but the costs can be high as interest rolls up over time, so it needs to be considered carefully.”
Have an investment plan
“If you do manage to release a decent amount of money through downsizing, then it is important not to just leave it in a cash account long term. We know the interest rates being offered by most banks fall way below inflation and if you leave your money there long term, it will start to lose purchasing power. We recommend retirees have between one- and three-years outgoings in a cash account. For money you’re planning to hold for longer, stock market-based investments may well make sense, because while the value of your investments will fluctuate in the short term, over the long term, stock markets have more potential for growth than cash. “
“You could for instance pay money into your pension. If you’re under 75, you can still get tax relief, even if you’ve stopped working. If you’re a non-earner or earning less than £3,600, you can pay in up to £2,880 each tax year and the government will automatically add up to £720 (20% tax relief) on top. If you have already taken some money out of your pension (bar the tax-free lump sum) then watch out for the money purchase annual allowance. This means you’re restricted to paying in up to £4,000 a year in total, including tax relief. “
More incentives are needed to encourage older homeowners to downsize when they do not have to, according to Tim Kampel, director of Box Property Solutions Ltd. He said:
“The older generation is keeping its money in property; they do not want to sell up and lose this money. A tax duty break could lead to them moving to a more appropriately sized house.”
The Outlook for Downsizing
Covid-19 appears to have made more over 55s want to stay in their existing homes rather than downsize; moving to a house with less square footage and fewer rooms does not appeal to everyone in these times. The pandemic has also put a new focus on the importance of maximising space and lifestyle, close friends, family and living within a good community.
Research by Legal & General Financial Advice found that the number of over 55s looking to downsize fell by 200,000 in the last three years. However, as we see the end of the pandemic, this may change and there are still 2.9m older households considering selling.
The willingness of older people to downsize is important as it frees up larger houses for young families; if few larger houses are available, prices are driven upwards. There are calls for more government incentives to encourage downsizing to bring more large family homes to the market, helping ease the shortage. Downsizing also needs to be attractive for tax reasons. Another spin-off from Covid-19 is the desire for more space to work from home, meaning that younger buyers can live further away from city centres and they want larger houses, adding to the competition.
What do you think?
If you would like to share an interesting or informative experience of downsizing, we would love to hear about it: please get in touch!