What Happens If You Pay Off Someone Else’s Mortgage?

From a lender’s perspective, there’s certainly no reason – legal or otherwise – why they would look to prevent you from paying off someone else’s mortgage.

There are, however, a few questions they will likely want to ask before accepting the funds for repayment, mainly from a due diligence perspective, such as:

• Why are you doing this?
• What is the relationship between the payer and payee?
• Where is the money coming from to repay the mortgage and how has it been accumulated?

In order to satisfy their anti-money laundering checks and guidelines, a lender has a responsibility to question why this transaction is happening. This includes being able to establish the source of any funds (particularly large amounts) received into one of their customer’s accounts from a third party who is not adding their name to the mortgage.

A classic example would be if you were a parent of an adult child and you’d agreed, whether as a gift or to assist them during a period of financial difficulty, to pay off their mortgage. A lender would likely deem this a perfectly plausible arrangement.

What you’ll need to provide to the lender

Before finalising the repayment and closing the mortgage account, a lender may ask for copies of your recent bank statements in order to clarify the source of funds and for verification of your identity (passport and/or driving licence etc.)

Some lenders may also ask for a written statement from you, as the payer, to outline the circumstances as to why you’re making this payment. These guidelines are similar to those followed when someone’s deposit for a mortgage is being paid for by a third party.

It’s possible a lender may refuse to complete a transaction such as this in certain scenarios, particularly if there appears to be a tenuous link between the payer and payee. But in most cases, as long as there’s a valid relationship (not necessarily always through family) and clear evidence of where the money is coming from, a lender will comply with your request.

Could there be any tax liabilities for you or the payee?

Yes, whilst paying off someone’s mortgage is an incredibly generous offer, it’s possible there could be some potential inheritance tax (IHT) implications for the recipient of your generosity at some point in the future.

For IHT purposes, HMRC allows each person an annual gift allowance of £3,000. So, you can give any number of people this amount every year without this money being added to the value of your estate when you die.

Any money gifted above this amount is classed as a potentially exempt transfer (PET) and will only be considered tax-free, in total, if you live for seven years after you’ve gifted the money.

How inheritance tax is charged

Inheritance tax is charged at 40% on the total value of your estate over and above the current nil-rate band allowance of £325,000.

For any gift classed as a PET the tax charge reduces (by 20% each year) on a sliding scale during the seven year period, as follows:

So, for example, let’s say you agree to pay off your son or daughter’s mortgage as a gift and the outstanding balance owed is £120,000. This amount, once paid, would be classed as a PET for IHT purposes.

If you died after 5 years, and your total estate – including this PET – was higher than the nil rate band, your child would have a 16% IHT tax liability to pay for this gift (£120,000 x 16% = £19,200). If your estate was below £325,000 when you died there would be no tax liability.

If you’re thinking of paying off someone else’s mortgage, especially if this is a gift for a family member or close friend, it’s important to speak with an experienced tax advisor and mortgage broker in the first instance before moving ahead with the transaction.