Six tax-efficient ways for grandparents to help the younger generation
The majority of grandparents, though they may dote on their grandchildren, have not necessarily thought of doing anything more than simply helping out financially as and when requested to do so by their children.
Indeed it is rare for grandparents to make provision for their grandchildren even in their Wills, where the majority tend to leave assets directly to their children on the basis that they can pass it on to their own children if they feel that is appropriate. That is unlikely to be the most tax-efficient way of going about things.
Grandparents may worry about leaving significant sums to their grandchildren, particularly whilst they are still young, for fear that this may stifle their work ethic and appreciation for the value of money, make them vulnerable to financial predators or provide the means for them to indulge their less salubrious pastimes.
However, a little forward thinking could substantially reduce their eventual inheritance tax exposure and ensure that grandchildren get the financial help they need when it will be most beneficial to them in the long term.
It has been estimated that the nation's 14 million grandparents will spend on average £74 on each grandchild this Christmas.
Grandparents who are feeling even more generous can give up to £250 to each of their grandchildren (or anyone else for that matter) in any tax year without worrying about inheritance tax (IHT).
Help with school and university fees
Grandparents helping their children out with school fees will be making gifts for IHT purposes.
However, provided the amounts given are under £3,000 per grandparent annually, they fall within the annual exemption from inheritance tax, and the gifts will have no inheritance tax consequences other than diminishing the taxable value of the grandparent's estate little by little.
Over a child's primary education this can extract £108,000 of value from the grandparent's estate, representing a tax saving of £43,000.
Grandparents with an annual income which is surplus to their normal annual expenditure can use this income to pay school fees; provided they retain enough income to meet their needs without reducing their standard of living, the gifts will be inheritance tax-free.
It is important that any gifts made with the intention of claiming this exemption are well-documented to evidence a settled pattern of giving made out of surplus income.
Help with purchasing a property
Gavin Barwell's solution to the housing crisis is to encourage parents to leave their properties - or cash to buy one - to grandchildren.
However, if grandparents make gifts whilst they are alive, the value of any financial contributions they make will be deemed to remain within their estates for IHT purposes for seven years before dropping out.
To avoid this, for those with younger grandchildren and surplus income, it may be a good idea to put this surplus income into a trust to build up a fund to be used for deposits later on.
The advantage of this is that there will be no seven year run-off when the funds are required for the house purchase.
Help with getting married
Grandparents should remember that they can give grandchildren £2,500 as a wedding gift free from IHT, before or at the time of their wedding. The gift must be conditional on the marriage taking place.
Extensive changes to the tax regime for pensions have presented opportunities to use these as tax-planning vehicles.
The situation now is that if you are under 75, you can take a lump sum of 25 per cent of the value of the pension pot out tax-free before your 75th birthday.
If you die when you are under 75 then anything remaining in your pension pot can pass to nominated beneficiaries free of IHT, and free of income tax when withdrawals are made from the pension.
If you die after 75 then the remains of the pension pot will pass to the nominated beneficiaries IHT-free, but they will pay income tax at their marginal rate when they take money out of the pension.
- ensure that they have nominated specific beneficiaries. The beneficiaries will then have the choice of either taking the pension pot as a lump sum or keeping it in the pension and withdrawing it as and when needed, thereby keeping surplus value out of their estates for IHT purposes and meaning they can pass it on to their own beneficiaries without IHT charge
- consider taking out their 25 per cent lump sum and reinvesting it in investments which attract IHT relief (for example, AIM shares) when they are approaching 75
- think about nominating their pension fund in favour of family members who are lower rate taxpayers (i.e. younger grandchildren)
- deplete less tax-efficient resources to meet their costs of living in preference to withdrawing from the pension where possible
One option is to leave property directly to grandchildren, skipping a generation. This does not necessarily save tax on the grandparent's death, but it does mitigate against the possibility of another 40 per cent tax charge on that property within their children's estates, if they have already accumulated wealth which puts them into the IHT charging zone.
Another option would be for the grandparents to leave their estate on discretionary trusts for the benefit of the whole family.
For IHT purposes the assets are not considered to belong to any of the beneficiaries until they leave the trust and will not therefore be taxable on the death of any of the beneficiaries.
Jessica Broxup is a solicitor at Wilsons, the leading private client law firm.