Gifting Money to Children and Grandchildren Explained
Last updated: 29/11/2023 | Estimated Reading Time: 11 minutes
While most people plan to leave their money to children and grandchildren after they die, increasing numbers aren’t waiting to pass on their wealth. According to financial advice provider The Openwork Partnership, six in 10 parents and grandparents intend to gift money to family members while they’re still living.
These early inheritances - averaging £9,500 for each child and grandchild - are to commemorate special occasions, cover education and expenses, and, overwhelmingly, to help the recipients purchase homes. As house prices have risen, the practice has become so common that the “Bank of Mum and Dad” is now the UK’s ninth-largest mortgage lender.
For many people, gifting money while they’re living is a means of avoiding some inheritance tax, which is levied at 40% on the value of an estate over £325,000. But gifts can also be taxable, and you’ll have to be savvy to avoid paying unnecessary tax when bestowing money on your loved ones.
You can gift your children as much money as you’d like, but you need to keep in mind that your gift may not be tax-free depending on the amount and circumstances. Smaller amounts of up to £3,000 per year are usually covered by the annual tax-free gift allowance, but bigger amounts may be subject to tax. In this guide, we’ll cover some of the main ways you can gift tax-free money to your children and grandchildren, as well as alternative ways to make sure your loved ones can fully benefit from your gifts.
Under HMRC rules, everyone is allowed to gift a certain amount of money within certain time frames without it being taxed. But above those thresholds and outside of those circumstances, gifts are taxed like estates to ensure people don’t use them to entirely evade inheritance tax.
In general, gifts to children and grandchildren are tax-free if:
· You hand out less than £3,000 total in a tax year.
· The gifts are small (less than £250 per person).
· You give a certain amount of money tax-free as a wedding gift.
· You gift the money more than seven years before you die.
Otherwise, money you directly give to anyone other than your spouse or a charity is subject to gift tax, which can be up to 40%.
Gift tax is levied by HMRC on financial gifts to people in circumstances that aren't tax-exempt.
Gift tax is basically a form of inheritance tax. The gift tax rate can be up to 40% if you die less than three years after giving the money - the same rate as inheritance tax. But the exact tax rate depends on when you die, with the tax paid retrospectively after your death, under the rules about potentially exempt transfers.
You can gift money to your children and grandchildren without it being taxed in the following circumstances:
Other gifts to children or grandchildren are potentially exempt transfers. If you die within seven years of handing over the money, it will be considered part of your estate and taxed accordingly. But if you live beyond that, the money won’t be taxed.
Potentially exempt transfers are money you hand over to people who aren’t your spouse or civil partner, and that may be subject to tax in the future, depending on when you die.
If you die more than seven years after gifting the money, it won’t be taxed.
But if you die before then, the money will be considered part of your estate and taxed accordingly. But how much tax is levied depends on when the gift was made and when you die - a mechanism called taper relief.
|Years Between Gift and Death||Tax Rate|
If the gifts end up subject to taxation, the tax will be retrospectively collected from the recipients after your death.
The rules around potentially exempt transfers exist to prevent people from giving away their money just before their death, or upon receiving a terminal diagnosis, in order to evade inheritance tax.
But remember that estate inheritance is only levied on the part of your estate over £325,000. So your beneficiaries won’t have to pay tax on previous gifts, unless those gifts and your estate total more than £325,000.
There are some other workarounds to gift and inheritance tax:
Contribute to a junior ISA: Junior ISAs are tax-free savings accounts for children under 18. Only a parent or guardian of the child can open the account, but anyone can pay into it tax-free, as long as the total contributions into the account don’t exceed £9,000 in a single tax year.
Buy them Premium Bonds: You can also buy your child or grandchild Premium Bonds from the Treasury-backed NS&I. Premium Bonds don’t pay interest, but give the holder the chance to win tax-free prizes of up to £1 million each month.
Set up a trust: A trust can ring-fence money for a child or grandchild until they reach adulthood. However, there are complicated rules surrounding trusts and taxations that are outside of the scope of this article. If you want to explore setting up a trust for your descendants, you should speak to a financial advisor.
Planning ahead is key when it comes to reducing inheritance tax payments. While it may not always be possible to avoid tax completely, there are steps you can take now that may put your loved ones in a better position. Remember, the sooner you start preparing, the better, so get started today.
Calculate your estate’s value: Before you even think about gifting, it's important to figure out exactly how much your estate is worth. This includes properties, cars, investments, savings and all of your possessions. It can be hard to get an exact amount, but do your best to get as close as possible. This way, you’ll know whether your estate will be subject to inheritance tax and how far over the threshold it is.
Gift possessions instead of money: If you have a lot of high-value possessions like heirlooms, jewellery or artwork, it can be worth gifting these to your children and grandchildren instead of money. While it might seem easier to sell these yourself and gift money, this can make your family more likely to be subject to taxes. However, the recipients need to be aware that if they sell the items, they may have to pay capital gains tax on the income the sale generates.
Use your tax-free allowance: Starting to gift children and grandchildren money using your tax-free allowance is a great way to reduce inheritance tax. However, the earlier you do this, the better, as you’ll be less likely to get hit with the seven year rule.
Keep detailed records: Make sure you note down any financial gifts you give as well as how this affects the total value of your estate. This will not only help you to keep on top of your tax allowances, but it will help your family to make sense of everything after you pass away.
Look into writing your life insurance in trust: Writing your life insurance in trust won’t be right for everyone, but it’s worth looking into if you’re worried about your family having to pay inheritance tax.
Everyone wants their children and grandchildren to have the best life possible, and monetary gifts are a great way to support them. To make sure your money is always being used in the best possible way, pay close attention to tax allowances, inheritance tax thresholds and the way you’re gifting money. If you’re feeling unsure or have a large estate you need to manage, it may be worth consulting a financial advisor for additional help.
Can I Give £3000 to Each Child I Have? No, the £3000 annual tax-free exemption applies to you, not your children, so you can’t give the full sum to each of your children and still be covered by the allowance. You can split the £3000 between each of your children or bump the total sum up to £6000 if your spouse is also able to gift money, as they will also have the same allowance as you.
What is the Best Way for Grandparents to Give Money to Grandchildren? The best way to gift money will really depend on the circumstances of the gift and the amount being gifted. A popular way for grandparents to support their grandchildren with tax-free gifts is by paying for or contributing towards certain expenses, whether that’s rent, tuition fees, or music lessons. Alternatively, to gift a lump sum to a child under the age of 18, junior ISAs can be a great tax-free option. Always explore all the options available to you before gifting money to make sure your money will go as far as possible.
Do I Need to Declare Cash Gifts to HMRC? If your cash gift was less than £3000, there’s no need to declare it to HMRC as it will be exempt from tax. But if the person who gifted to money dies within seven years of giving you the money, you may need to pay inheritance tax on it. Usually this will already be included in the person’s estate, so you may not need to declare it yourself.
Will HMRC Find Out About Gifts When Someone Dies? Yes, HMRC will find out about any gifts given by a relative after they have died. While it might seem like a few thousand pounds won’t be on their radar, the executor of the relative’s estate will have to report all gifts to HMRC to make sure inheritance tax is calculated correctly.
Are Gifts Always Subject to Inheritance Tax According to the Seven Year Rule? No, not all gifts will be taxed if a person dies within seven years of giving them. All gifts will contribute to the £325,000 tax free threshold, but if a person’s total estate (including gifts) doesn’t amount to more than this, inheritance tax won’t be payable.
Can My Child or Grandchild be a Beneficiary of My Life Insurance? Yes, you can name anyone you like as the beneficiary of your life insurance. If you have multiple children or grandchildren you would like to benefit from your life insurance payout, you can name all of them as beneficiaries. However, keep in mind that children under the age of 18 will need a guardian to manage their money until they come of age.