Is Now A Good Time To Help Your Children Financially?
Helping your children financially may have come to the forefront of your mind during these uncertain economic times. It could be that a family member has lost their income, or seen a significant reduction in income because of the coronavirus pandemic. It is certainly worth considering your options in the context of your estate planning strategy.
Before assisting another person financially, you need to consider whether you can afford to help without jeopardizing your own financial security. Your Independent Financial Advisor (IFA) will be able to work out for you how much income you will need to see you through retirement. IFAs use cash flow modelling to work out your excess income or capital after expenditure. This is important, as you will then be able to work out how much you can comfortably afford to give away.
It is worth noting that if the donor lacks mental capacity to make a gift, or someone is acting for them under a Lasting Power of Attorney – then there are stringent restrictions in place to protect them. In this situation, legal advice must be sought.
What type of gift?
You may decide to either:
- Gift a sum of money away outright – either as a lump sum or a fixed amount on a regular basis; or and
- Gift a sum of money into a trust
The advantage of gifting outright is the simplicity but there can also be advantages of using a trust. By placing a sum of money into a discretionary trust, you are protecting assets from situations such as bankruptcy or divorce. A trust also allows you to assist a number of potential beneficiaries. During these challenging times, a trust would enable you to respond to an individual’s financial needs on a case-by-case basis.
When gifting you need to consider two taxes:
- Capital Gains Tax (CGT) paid when transferring assets (for example, a house or an investment portfolio) that have increased in value since purchased. The donor pays CGT shortly after the gift is made.
- Inheritance Tax (IHT) charged at 40% on anything above your nil rate band (currently £325,000) should you not survive for 7 years from the date of making the gift known as a potential exempt transfer (PET). The rate of IHT reduces progressively in the period between 3 and 7 years after the gift has been made. If you place more than your nil rate band of £325,000 into a trust than you may also trigger a 20% IHT ‘initial charge.’
Under the current legislation, if you do not gift the assets during your lifetime, they will not be subject to CGT on death, but they will be liable to IHT. Gifting these assets 7 years prior to death eliminates any IHT (if you have not reserved a benefit in the asset given away), but CGT would be payable. Understandably, neither option is particularly attractive. CGT at 20% is likely to be lower than IHT at 40%, whist some will view gifting assets as sensible, others will see CGT as a deterrent.
Is it still worth making a gift?
No one has enjoyed watching their investment portfolios slump during this global pandemic, nor reading about the predicted fall in property prices. However, this slump in the economy will have significantly reduced the value of investments and as such, the gain on the original purchase price. CGT will likely be substantially lower that it was before March.
Another point to note is that so far the Covid-19 economic measures put in place by the government have cost in the region of £300 billion. Clearly, it will be necessary to recoup this extraordinary expenditure, and an increase in taxes seems inevitable. Just before the pandemic took hold, the All-Party Parliamentary Group for Inheritance & Intergenerational Fairness published a paper recommending a complete overhaul of the UK IHT regime. It proposed that all transfers of wealth, in excess of an annual gift allowance (£30,000) would be taxable at a rate of between 10% – 20%. It also recommended abolishing PETs, whereby a lifetime gift of any value can be made free of IHT provided the donor lives for 7 years following the gift.
How Russells may help
We can explore the most effective ways for you to make a financial gift in the context of your wider estate planning. Private Client partners Karl Dembicki and Peter Smith are available at the end of the phone or by video conferencing to discuss the best structure for gifting to a loved one.