In our weekly series, readers can email in with any question about their finances to be answered by our expert, Charlotte Ransom. Charlotte has 30 years’ experience working in financial services and wealth planning, including ten years as a partner at Goldman Sachs. She co-founded Netwealth, which specialises in low-cost investing and financial planning advice. If you have a question for her, email us at money@inews.co.uk.
Question: Every day I seem to read another article on inheritance tax and it got me thinking. I am fortunate enough to have a sizeable sum to pass on that I have accumulated over the years, and would therefore like to gift £55,000 to my grandson (who is 17). What is the best means of ensuring the highest value is passed on directly to them and is also safeguarded against interest rates/cash erosion? Is there an optimum means of investing the money on their behalf? ER, Suffolk.
Answer: You are indeed fortunate, as is your grandson, to have this sizeable sum to pass on to them. As you suggest in your question, the key is to ensure the money is allocated appropriately – so your grandchild can make the most of this gift.
Your first consideration should be whether he has a pressing need for the funds. You say they are aged 17; will they need the funds for university or further education? If that is the case, it’s best not to take too much risk. As interest rates are high now, it’s worth exploring a fixed-rate deal for one year, and then potentially reassessing the situation.
You may decide on a longer-term fixed rate instead – maybe they don’t require the funds for two or three years – and you could lock in a good deal while deposit rates are still relatively high.
Remember too that, should you choose, you can gift the whole £55,000 sum to them today. If you live for another seven years, you will then avoid inheritance tax (IHT) for this amount should your overall estate be taxed. In the example above, once they reach 18, you could help direct them in terms of how best to think about this significant gift.
If he has no immediate need for the funds, or perhaps if you are keen that they are allocated for something specific such as a property deposit, it is better to invest the money and take some market risk with a view to targeting longer-term growth. This is considered the best way to avoid the impact that inflation has on money that is kept in cash which will struggle to preserve its value in real (net of inflation) terms.
Helpfully, your grandchild can quickly move a good chunk of the funds into a tax-free wrapper. A 17-year-old can take advantage of the rules which allow both Junior Isa (Jisa) allowance of £9,000 and cash Isa allowance of £20,000 to be used in the year they turn 18. The Jisa will be converted to an adult Isa at age 18 and the cash Isa can also then be transferred to a stocks and shares Isa to maximise the potential for growth.
A child cannot otherwise invest, therefore a simple bare trust – a general investment account held on their behalf – would need to be used before they can invest the funds directly themselves (or access the funds) at age 18. They could then use their Isa allowance each tax year so that over three years all the funds would be held within an Isa and fully sheltered from tax.
If your grandchild intends to start work rather than studying after school, they could also consider a pension – at least for some of the funds. In addition to the 20 per cent government boost they get from paying into a pension each year, it can help instil an important sense of discipline, with a quantifiable impact later in life (they will not be able to access their pension until age 57). Understandably, however, this can feel very intangible for a teenager to appreciate today, and for some it is also preferable to see the impact of their gift earlier in their lifetime.
Staying on the topic of pensions, you can make the potential outcome more tangible by highlighting some figures. Since they can pay up to 100 per cent of their earnings into a pension each year (up to the maximum of their annual allowance of £60,000), let’s assume they can afford to put £20,000 of the £55,000 lump sum into a pension at age 18. If they then contribute £100 a month for 40 years (and supposing investment growth of 5 per cent a year, with no other assumptions), after this period they would have amassed over £2.3m.
This figure includes the pension uplift from the Government of 20 per cent each year, both on the initial £20,000 and the £1,200 yearly contribution – and it shows the power of long-term investing. If your grandchild instead waited another 10 years to start a pension, with the same assumptions, and now with only 30 years of savings instead of 40, they would have accrued just under £1.3m – over £1m less for a decade’s hesitation.
In reality, few 18-year-olds are likely to be able to start saving regularly into a pension, but this example shows that a lump sum and £100 saved a month for an extended period can lead to a very meaningful outcome. Even if your grandchild is not working, they can contribute up to £3,600 a year into a pension with the government top-up.
In order to ensure any investment reaches its potential, we would encourage your grandchild to follow certain tried and tested practices. This includes using the tax wrappers we have highlighted, such as a pension or Isa to maximise tax-free growth, to have a diversified set of investments including stocks and bonds, and to stay invested for the duration rather than trying to time the market – as this column has raised before, there are enormous benefits to following these simple steps.
Lastly, when investing it’s also crucial to monitor how much you pay in fees to have your investments managed – small differences compounded over time can be transformational and in your grandchild’s case, they will have a multi-decade investment timeframe where lower fees will make a massive difference.
Time is a key factor in shaping your grandchild’s future. The next few years – whether they are studying or starting work – will be exciting and revealing and, with your help, could also include a highly rewarding investment journey.
