Tax exempt saving options for children and grandchildren

In this article I provide an overview of some of the tax-exempt saving options that are available.

Junior ISA/Adult ISA

Under current rules, a child benefits from an annual JISA allowance of £9,000. In addition, from their 16th birthday, it is possible for them to open an adult cash ISA, which they can subscribe to in addition to any subscriptions made to their JISA(s), and save up to £20,000 – which is the current total ISA subscription limit. The same rule applies in the tax year of their 17^th birthday. This means that it is possible to save up to £29,000 in the tax year of their 16^th birthday and another £29,000 in the tax year of their 17^th birthday (either all in cash, or including up to £9,000 a year in stocks and shares in the Junior ISA(s)). A JISA cannot be offered as an innovative finance account.

In addition, from the start of the tax year that the child turns 18, they can:

• use their whole JISA subscription limit (even though the JISA will be held for a part-year only); and
• subscribe up to the overall ISA limit to a cash ISA before their 18^th birthday; and
• from their 18th birthday, invest in a stocks and shares ISA, an innovative finance ISA, or a lifetime ISA, subject to the subscription limits. However, the overall subscription limit available is reduced by the amount already subscribed to the cash ISAbefore the birthday.

From age 18 the child/grandchild can access the funds from the account free of income tax and capital gains tax (CGT).

Example:

Harry recently turned 16. He decided he would open an adult cash ISA and put all his birthday money into the account. His grandparents decided to gift him the balance thereby maximising his adult ISA allowance.

A year later, his parents gifted him £9,000 and his grandparents gifted him £20,000 to maximise his JISA and ISA savings.

Then, in the tax year of his 18^th birthday, Harry has a choice of either saving the full £20,000 in his cash ISA (before his 18^th birthday) or opening an adult stocks and shares ISA from his 18^th birthday, and saving the full £20,000 into his newly opened stocks and shares ISA or saving some in his cash ISA and some in his stocks and shares ISA – subject to the overall subscription limit of £20,000. He can also save in his JISA in the tax year of his 18^th birthday.

Child Trust Fund

While no new accounts can be opened, if a child was born between 2002 and 2011, they may have a child trust fund (CTF). In which case it is still possible to pay into the account and, since April 2015, it has been possible to transfer the CTF into a JISA. If the CTF isn’t transferred, when the child attains age 18 they will be able to access the money free of tax or they can decide to transfer it into an adult ISA.

JISAs/ISAs/CTFs all provide a tax-efficient was of saving and accumulating funds to either help with higher education or property purchase.

Friendly Society Savings Plan

Many Friendly Societies have children’s version of their tax-exempt savings plans. This is a qualifying life assurance policy which usually offers an investment term of between ten and twenty-five years. The money is invested in a stocks and shares-based investment fund for the chosen term. It is possible to pay £270 a year, or £300 a year if premiums are payable more frequently than annually, for instance if £25 is paid in each month.

There are no age restrictions on holders of Friendly Society Savings Plans, so, in theory, children can hold such policies. However, as many providers stipulate a minimum age requirement of 16 for taking out a policy, parents/grandparents will often need to take out a policy as a gift for a younger child or grandchild. As long as payments have been made into the policy for at least ten years, and the child is at least 16 years old when the policy matures, there will be no income tax or CGT payable. Although note that, as children’s policies cannot mature before the child’s 16th birthday, the policy might need to run for longer than ten years.

National Savings & Investments Premium Bonds

Premium bonds can be bought on behalf of a child or grandchild. The minimum investment amount is £25 per bond and it is possible to keep buying bonds up to a maximum holding limit of £50,000. There is no interest earned on the bonds. Instead, the interest rate funds a monthly prize draw for tax-free prizes where it is possible to win between £25 and £1 million tax-free. Until the child’s 16th birthday, the parent or guardian named on the application looks after the bonds.

Children’s pensions

While a pension would not help with costs of higher education or property purchase, as funds will be not available until the child attains age 57 (currently 55), it provides a way to save tax-efficiently for a child as the contributions are invested in a tax-free fund. It is possible for anybody to provide funds to be contributed to a registered pension plan for a child. The maximum annual contribution is £3,600 gross with the contribution being paid net of basic rate tax. The £720 basic rate tax relief added by the Government each year is a significant benefit and the earlier that pension contributions are started the more the child will benefit from compounded tax-free returns.
The benefits can be taken at age 57, or later, and, under current rules, up to 25% of the fund can be taken as a tax-free cash lump sum.

Inheritance tax

Any gifts made by parents/grandparents into any of the above saving vehicles will be potentially exempt transfers for inheritance tax purposes, unless covered by the annual £3,000 exemption or the normal expenditure out of income exemption.

Be aware - income tax ‘anti-avoidance’

It should be noted that gifts made by a parent in respect of any child who is under age 18 and unmarried, or not in a civil partnership will usually be caught by the parental settlement provisions. This means that if gross income exceeds £100 in a tax year from all gifts made by the same parent the income is assessed on the parent(s). For the savings options outlined above, aside from an adult ISA, this rule does not apply.

Summary

Investments that can be held in the names of a child/grandchild that are tax-free are suitable as savings options although the amount that can be saved in some of these are subject to low investment limits.