With increasing challenges facing many millennials, the desire for parents and grandparents to provide financially for their children/grandchildren’s future is becoming more important. This should be a relatively simple exercise, but in practice there are several issues and investment vehicles to consider before deciding on the final solution.
In 2011 the Child Trust Fund was replaced by the Junior ISA and has become the most popular option taken by parents when saving for their children, due to the tax-free wrapper. Whilst a parent or legal guardian must open the Junior ISA, anyone (including grandparents and other family members) can contribute.
The maximum contribution for 2018/19 is £4,260; with this limit expected to increase in line with inflation each year. The investment can be made into cash or stocks & shares, or a combination of the two. If the child is aged 16 or 17, they can open an (adult) cash ISA and save up to £20,000 a year, as well as up to £4,260 in the Junior ISA.
Under the Junior ISA rules, once the child reaches age 18, the Junior ISA becomes an adult ISA and the child gains full control over how the money is invested or spent.
This may not be an outcome parents are comfortable with, given the sum could be in excess of £120,000 if fully funded for 18 years. For those wishing to retain more control over the assets once the child reaches 18, other options are available.
Investments cannot normally be bought directly by a child. Therefore, a gift can be made into a designated investment account creating a simple trust, with the child as the sole beneficiary.
Where parents gift money to an unmarried child under the age of 18 and income generated by the gift is over £100, the income is taxable on the parent who provided the funds under the “parent settlor rules”. These rules do not however apply to grandparents and other family members. Investment accounts are therefore often used by grandparents or other family members who can open and manage the account directly, unlike a Junior ISA.
Income and capital gains will be chargeable on the child with full use of their annual allowances. During 2018/19, up to £19,850 of tax free income can be generated from capital provided by grandparents and other family members by combining the child’s: personal allowance, savings allowance, dividend allowance and starting rate band.
There are no investment limits, meaning they can also be particularly useful for limiting inheritance tax.
Withdrawals can be made at any time, although they must be used for the benefit of the child. As with Junior ISAs, once the child turns 18 the money is theirs to do with as they please.
Offshore Investment Bonds may offer a solution to those wishing to maintain long term control over the investment. Whilst invested, the underlying holdings benefit from preferential tax treatment like an ISA or pension.
Bonds are segmented into ‘sub policies’ that can be easily assigned (gifted) to children over the age of 18 as and when funds are needed. When the policy is then surrendered the gains are tested on the recipient who is likely a non or low-rate taxpayer, rather than that the settlor who is often subject to higher rate tax.
As the parent or grandparent owns the bond, they have complete discretion on when to assign segments and gift funds, be it to help with university fees or a house deposit.
Looking even further into the future, you may want to help support your child’s needs much later in life, perhaps when they come to retire.
It is often said it is never too early to start contributing to a personal pension. Contributions made now will benefit from compound returns over many decades and could give the child’s pension fund a significant boost in value.
For non-earner, no matter your age, up to £2,880 can be saved, with the Government topping up the payments with 20% tax relief, providing a maximum gross contribution of £3,600 per year.
Inheritance Tax (IHT) Implications
Please note that there are potential IHT implications when making gifts in excess of the annual tax-free allowances. Provided they are correctly structured, relatively small levels of regular gifting and investment can result both in substantial provisions for your beneficiaries and an associated reduction in your estate.
Get in touch with your adviser if you are considering making provisions for your family and would like further information.