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Rising property prices and the increasing cost of further education mean that today’s young adults face a much greater financial hill to climb than previous generations. And increasingly it's grandparents who are coming to the rescue.

According to the Yorkshire Building Society* almost 30% of first time buyers in 2015/16 had help from family members.

Sharing wealth between generations not only helps grandchildren pay off student debt or get a foothold on the property ladder, it can also help to reduce the grandparents’ IHT liability.

But thought needs to be given on the best way to pass on wealth and how to hold and invest it until it's needed.

The satisfaction of giving

Many grandparents often leave money in their wills for their grandchildren. But by making that gift during their lifetime, they get to see the benefit it has on their family on many different levels:

• They will have played their part in their grandchildren’s futures;
• A financial burden on their own children will have been be lifted; and
• At a personal level, they may have made IHT savings. 

Grandparents may insist on an element of control over who benefits from their gift and when. They may also want a say in where it's invested. 

‘Controlling’ the gift

There may be an understandable concern about giving grandchildren too much too soon. Grandparents may want to have some control over when money is handed over.

‘Designated accounts’ have been a way of earmarking money in unit trusts/OEICs for a grandchild without them actually receiving it. Funds can then be transferred to the grandchild at the appropriate time.

The downside to this is that income and gains continue to be assessable upon the grandparent unless the designation is irrevocable. The opportunity to use the grandchild’s income tax and CGT allowances would be missed and the asset remains in the grandparent’s estate for IHT.

Making a gift into trust may ease the fears of giving large sums to grandchildren before they have sufficient financial maturity and provide grandparents with the control they seek.

What type of trust?

Absolute (Bare) trusts, including irrevocable designated accounts, are the simplest form of trust. But they're also the most restrictive. The beneficiaries cannot be amended if circumstances change and they could demand the trustees hand over the money once they reach 18.

But there are tax advantages of using absolute trusts. The initial gift is a potentially exempt transfer with no immediate IHT. Income and gains will be assessed upon the beneficiary meaning they'll be able to use their own allowances and tax rates. And the gift will be outside the grandparent’s estate for IHT after 7 years.

Discretionary trusts provide greater control over when and how money is distributed and they're typically flexible enough to allow any future grandchildren to benefit.

In contrast to the absolute trust, the initial gift is a chargeable transfer, but there will be no immediate 20% IHT charge payable provided the grandparents have enough nil rate band available. This means a joint gift of up to £650,000 can be made without a charge.

Control within trusts normally comes at a price. Discretionary trusts pay income tax at the trust rate of 45% (38.1% for dividends) and CGT at 20% with a lower annual allowance too. But with the right investment wrapper, that need not be the case.

Offshore Bonds Offshore bonds score top marks here. During the investment period, the bond suffers no UK tax on income and gains, and tax is deferred for bond owners until money is withdrawn and a chargeable event occurs.

This simplifies matters for trustees of a discretionary trust as they have no income or gains to account for during the investment term. And when the money is needed, policy segments can be assigned to the grandchild once they're over 18, who will then become the person taxed on subsequent surrender.

Sometimes savings priorities change and funds may be needed for something other than house purchase - for example, to pay for school fees. If this is before age 18, the trustees could cash in the required amount from the bond. In doing so, the settlors of the discretionary trust (i.e. the grandparents) would be taxable on any gain at their rate. If they are deceased, the gain is taxed at the trust rate, currently 45%.

However, it's also possible to overcome this and have the gains taxed on the grandchildren at their (lower) rate if the trustees complete a deed creating an absolute interest for the child in part of the trust fund, before surrendering that part. The gain will then be assessed on the child, using the child’s allowances.

OEICs/UTs

An OEIC/UT portfolio held in a discretionary trust is unlikely to be as tax efficient as an offshore bond, particularly if bond profits can be extracted tax free. This is because trustees will still have to pay tax on accumulated income at the trust rate (45% and 38.1%), and possibly CGT (at 20%) should gains arise above the trust annual exempt amount. The same income and gains can roll-up gross if funds are held in an offshore bond wrapper.

Summary

Average first time buyer deposits have doubled in the last 10 years. And today's first time buyers can expect to need a deposit of more than £33,000 according to the Halifax.**

With such high costs, especially if trying to help more than one grandchild, making a gift at the earliest possible time means that investment growth can play a bigger part in meeting those costs. And from the grandparent’s perspective, the gift will be outside their estate for IHT sooner.

The right combination of trust and investment wrapper can quell any concerns grandparents may have about handing large sums to their grandchildren at a young and impressionable age. An offshore bond held in a discretionary trust combines the necessary control with a tax efficient investment solution. 

* https://www.ybs.co.uk/pdf/mortgages/first-time-buyers-report-2017.pdf

** https://static.halifax.co.uk/assets/pdf/mortgages/pdf/2018-01-27-number-of-ftb-highest-since-2007-HPI.pdf