How to give investments without losing to the taxman
As we approach the festive period, and Santa’s movements may be affected by coronavirus restrictions, the more financially minded of you might be considering gifting shares to children or grandchildren, as well as, or instead of the latest must-have console game.
This is a good way to give kids a financial head start in life and is likely to still be reaping rewards from compound returns when the aforementioned game is gathering dust in an attic. But there are a few things you need to know before you take the plunge.
CAPITAL GAINS TAX IMPLICATIONS
If you’re gifting an investment that you already hold, capital gains tax is potentially payable when you pass it across to the child, even if you don’t sell the asset.
This would only be the case if your total gains for the tax year exceed the annual exempt amount of £12,300. If this is the case then capital gains tax would be payable at 10% or 20% of the chargeable gain, depending on whether you are a basic rate or a higher rate taxpayer.
If you find yourself in this situation, you may consider transferring assets to a spouse or civil partner if they haven’t used their annual exempt allowance of £12,300.
The transfer between spouses or civil partners doesn’t attract capital gains tax, and they can then gift the shares to a child or grandchild. Your spouse will inherit your base cost for the investment when it comes to working out how much the gain is.
• In the UK, everyone gets a £3,000 annual gifting allowance.
• Think about any capital gains tax or inheritance tax implications from gifting.
• Children can only earn up to £100 in income each year on money or investments gifted to them by a parent (beyond which the parent may be taxed) – but a Junior ISA helps to get around this situation.
INHERITANCE TAX IMPLICATIONS
Whether you’re gifting shares or cash to invest, you should also consider any inheritance tax (IHT) implications your gift may have. You have an annual gift allowance of £3,000 which you can use without worrying about inheritance tax being levied on the gift should you die.
That limit is not per person you gift to, but rather is a total for all gifts you make, excluding those to a spouse or civil partner.
There are some other IHT exemptions for gifts. These may account for some of the other gifts you make in any given year, for instance gifts made to a child or grandchild who is getting married, or gifts which are made out of ‘normal’ income and don’t affect your standard of living like typical birthday and Christmas presents.
However, if you exceed your annual gifting allowance then IHT may be due on the gift if you die within seven years, assuming your estate is worth more than the nil rate band for IHT.
The tax works on a sliding scale, so if you die less than three years after gifting then 40% IHT would be due, but if you die between six and seven years after the gift then the tax rate falls to just 8%. After seven years, no inheritance tax would be due.
WATCH OUT FOR THIS RULE
You also need to be aware of a rule which means that children can only earn up to £100 in income each year on money or investments gifted to them by a parent.
If they earn more, then all that income is attributed to the parent, and so potentially taxable. This doesn’t apply to money gifted by a grandparent or other relative, and parents can get round this problem by using a Junior ISA, which allows tax-free income and gains to be accumulated.
Indeed, even grandparents and other relatives should consider this route because when the child grows up, they can roll over into an adult ISA and continue to enjoy tax-free benefits.
Contributions to Junior ISAs must be made in cash, so if you’re looking to gift existing shareholdings they would need to be sold and then repurchased within the ISA.
WHAT ABOUT PREMIUM BONDS?
For years NS&I premium bonds have been a popular present to give to children. It’s easy to see why – they add a fun element to saving through the monthly prize draw, and there’s always the very small chance you could be one of the lucky winners of a £1 million jackpot.
However, children have such a long investment horizon that they are ideally suited to a stocks and shares investment, because they can ride out the ups and downs of the market over time.
What’s more NS&I has cut the interest rate used to calculate the prize pool from 1.4% to 1% per year – that the rate of return you will get if you have average luck. Given such a measly return, the stock market looks much more attractive for long term savings than relying on NS&I’s random number generator, ERNIE.