Gifting money to your grandchildren can help to give them some financial freedom and could make a big difference to their lives. But knowing how and when to do it will let them fully benefit from your gift, and avoid paying too much tax. Find out how inheritance tax works and some tax efficient ways to give money to your grandchildren.
Life is full of big expenses such as university fees, weddings, house deposits and paying off debt. So it’s only natural that you might want to give your grandchildren a helping hand when it comes to their finances.
Here we summarise the key points and share some tips on how you can be as tax efficient as possible when giving money to your loved ones.
Inheritance tax (IHT) is the tax paid on your estate — your home, money, possessions and so on, less any debts – after you die.
This normally doesn’t need to be paid if your estate is worth less than the £325,000 threshold. You may also be able to claim up to £175,000, where the family home passes to children or grandchildren.
These allowances (totalling up to £500,000) apply to each person, and may be able to be left to a surviving spouse or civil partner. This would give a tax-free threshold of up to £1 million. But anything over this amount is typically taxed at 40%. And IHT can apply to gifts made from you in your lifetime.
So how can you help make sure your loved ones don’t pay IHT on your gifts?
Giving money to your grandchildren regularly and in smaller amounts can be an effective way to minimise the IHT payable on your estate on your death.
You can gift £250 to as many people as you want every tax year without IHT consequences. You can also give away £3,000 worth of gifts every tax year, known as your ‘annual exemption’. However, you can’t give both the £250 and £3,000 to the same person.
If you don’t gift the £3000 in one year, you can carry it forward, giving you £6,000 to gift in the next year, which will not be considered for IHT purposes.
Regular gifts made from surplus income could be exempt. But you need to prove that you have enough income left to maintain your usual standard of living.
There are some other gifts you can give tax-free, such as wedding gifts. Find out more on these from Money Helper.
If you want to gift larger sums to individuals, these won’t be counted for Inheritance Tax purposes – as long as you live for seven years afterwards.
If you don’t live for the full seven years, the money you’ve given will be added to the value of your estate. So this means it would use some of your £325,000 threshold. You can't use any inherited threshold or £175,000 family home threshold against lifetime gifts. If you have used all of the available threshold, the gift will be taxed at 40%.
Taper Relief may be available to reduce the IHT on the gift depending on the number of years between the gift and death.
Thanks to pension freedoms, you can now start taking your pension savings when you turn 55 (rising to 57 in 2028) – and if you wish you can usually get 25% of your pot tax free. So using some of your tax-free cash could be a good way to fund some of your grandchildren’s (or children’s) big expenses like education fees or a deposit on a property.
A word of caution here: while using your pension savings could set them on the right path, you need to carefully consider your own retirement needs.
Is your pension pot big enough to be able to help them and still leave you with enough to last you through your retirement? What would happen if you need to fund care in later life? Or if the value of your pension investments fall?
Plus using your pension pot to help out your grandchildren doesn’t necessarily have to be done in your lifetime - especially if taking money out now means you won’t have enough left to provide for yourself.
Any money left in your pension after you die isn’t normally included in your estate for IHT purposes (although there are circumstances where it might still be). So you could think about nominating your grandchild as a beneficiary. That way the money you want to pass to them could potentially be passed on tax-free if you die under age 75. If you die over the age of 75, your pension will be taxed at the beneficiary's marginal rate.
Many grandparents intend to leave some money to their grandchildren in their Will. But what if you’d like to support them financially while you’re still around? Using a trust can help you do this while offering a number of advantages.
As a trustee, you retain an element of control over the funds and how and when they’re paid, while gifts made to the trust can reduce your estate for IHT. Using a discretionary trust gives grandparents the greatest flexibility and control but the taxation is higher and more complex. In particular, while most gifts discussed in this article could be covered by an exemption or be a potentially exempt transfer, a gift to a discretionary trust is a chargeable lifetime transfer and could be subject to IHT at the time the gift is made.
This complexity can be reduced if the trustees choose to invest in an offshore bond as it doesn’t generate income. When the funds are needed to meet university costs, for example, bond segments can be assigned to the grandchild. Any chargeable gains which arise after the assignment will be assessed against the grandchild who, as a student, is likely to be a non-taxpayer anyway.
Using an offshore bond within a discretionary trust provides a good match of control and tax efficiency.
While you can’t open a Junior ISA – known as a JISA – on their behalf, you can pay into a grandchild’s JISA, within their annual limit, which is £9,000 for the 2021/22 tax year.
That money can be invested in cash, shares, or both, and belongs to the child when they turn 18. All gains earned are tax free, making it a tax-efficient way to save for them.
One advantage is the JISA isn’t something they can dip into until they reach 18, but is theirs to spend as they want after that. And because those savings are theirs, any growth is outside your estate for IHT purposes from day one, while any gifts made to them will be outside of your estate in seven years (or immediately if exempt).
Depending on their age, giving money to a grandchild so that they can save into a Lifetime ISA could help them save for a property or top up their pension savings.
Launched in 2017, the Lifetime ISA can only be opened between the ages of 18 and 39, so you can’t open it for them. Your grandchild could save up to £4,000 a year and get a 25% government bonus on top of that.
There are a number of qualifying conditions which you can read about on Gov.uk.
Ideal for smaller amounts of cash, bank accounts are practical and easy for family and friends to pay money into. And giving younger children access to their savings can help them manage their own money. Just remember that interest earned is usually low and inflation can eat into any returns. Again, any gifts to them will be outside your estate in seven years (unless they are covered by an exemption).
The good news is that there are many tax efficient ways you can support your loved ones. But it is a complex area, so it’s well worth seeking advice for your family’s circumstances so that you can make the most of your money, and their future. If you don’t have a financial adviser, you can find one in your local area at unbiased.co.uk There will likely be a charge for any financial advice you receive.
The information in this article should not be regarded as financial advice.
Pensions, bonds and some types of ISAs are investments. Their value can go down as well as up and could be worth less than was paid in.
Your own personal circumstances, including where you live in the UK, will have an impact on the tax you pay and laws and tax rules may change in the future.
The information here is based on our understanding in July 2021.