helping children with inheritance las well as tying their shoelaces

Are you fast-forwarding your children’s inheritance?

Gifting today not tomorrow – how the pattern of inheritance is shifting.

 

The increasing financial challenges for the next generation are shifting the traditional concept of inheritance. Today, parents and grandparents are fast-forwarding more of their prospective inheritance because of the rising costs and economic pressures faced by their children.

According to the Institute for Fiscal Studies, £17 billion is gifted or loaned informally each year by parents to their adult children, with half of the value of gifts being used for property purchases or home improvements.

This huge contribution to property ownership is backed by the latest analysis from property firm Savills. Their own survey shows that a total of 170,000 first-time buyers received family assistance in securing a mortgage in 2022, when gifts and loans from the Bank of Mum and Dad (BOMAD) totalled a staggering £8.8 billion.

This amount has in fact more than doubled since the start of the pandemic because of the more challenging mortgage market, higher mortgage repayment costs, and higher deposit requirements.

Whilst interest rates and mortgage costs may have eased slightly as we enter 2024, it’s highly likely that the ‘Bank of Mum and Dad’ will be required to provide similar levels of support for future generations for the rest of this year and beyond, with suggestions that family contributions for property purchases alone will climb to £10 billion by 2025.*

From supporting property purchases and wedding costs through to helping contribute to school or university fees for their grandchildren, it’s not just the under 35 age group being supported, with a third of BOMAD funds supporting those family members between the age of 35-55.

Research from the latest Saltus Wealth Index Report found that 74% of people surveyed with assets of £250,000 or more are providing financial support for either their adult children, adult grandchildren, or both.

More than half of those surveyed (54%) revealed that they were already giving financial assistance to their adult children prior to the cost-of-living crisis, while two-thirds (68%) were giving money to their grandchildren. Help with affording holidays was the most widespread form of support, followed by educational costs.

The amounts in question are substantial. BOMAD transfers to adult children average £12,000 a year while adult grandchildren typically receive just under £11,000.

This ongoing inter-generational support has increased as a direct result of the latest financial squeeze. A quarter of high-net-worth individuals (HNWIs) say they began giving financial support to younger generations of their family specifically because of the cost-of-living crisis.

In the last year, those grandparents have given their grown-up grandchildren an average top-up of over £15,000, most commonly to help out with energy bills, holidays, mortgages and transport.

In the last Saltus Wealth Index Report, a large number of older HNWIs cited the mounting cost of school fees as a reason for giving financial assistance to younger generations, and this remains the case. In the latest report, four in ten (42%) HNWIs said that they were making contributions to educational costs. This covers university fees for their own adult children (18%) or grandchildren (15%) and also involves paying school fees for their grandchildren (7%) or great-grandchildren (9%).

While grown-up children and grandchildren have traditionally turned to BOMAD for help with big-ticket items such as first homes, weddings, or cars, it’s clear that older HNWIs are now extending their reach to help with recurring, day-to-day living expenses.

Talking openly to the next generation

Passing on wealth to the next generation is rarely straightforward. Many of today’s younger generation are counting on an inheritance to help them out in later life.

Whatever the size of that inheritance, the irony is that statistically many people will be in their 60’s before they receive a share of their parents’ wealth, well past the age when they probably need it most. This disconnect between generations can be best resolved if families get around the table to openly talk and understand each sides needs and views.

By doing so, not only will expectations between the generations be better managed, but money can be gifted when it’s needed most and achieved without it having a detrimental impact on the parents’ own lifestyle. Probably the biggest benefit of this approach is that it means parents or grandparents can share in the enjoyment they will be bringing to their children or grandchildren.

What happens to gifted money in the event of divorce?

One of the common concerns of parents when looking to support their children, especially in terms of property purchases is the risk of losing half of this money if their child’s marriage fails and they get divorced.

A key issue here is whether you are giving the gift free of any obligation to pay it back.  If so, you’ll have to be comfortable knowing that in the event of a divorce, your child will effectively lose half of the money you orginally gifted. If, however, your contribution is to be paid back to you in the future and you want to make sure that it’s protected solely for your child if they separate from their spouse or partner, then there are several ways to do this.

A formal written loan agreement is one option which should be clear on repayment terms and what happens in the event of your child’s separation or divorce. A prenuptial agreement can be used to protect any gifts that your child receives before they got married or if already married, they can make a postnuptial agreement, but clearly these are highly sensitive topics. Whilst they’re not legally binding in the UK, they will be taken into consideration by the courts during any proceedings and, if various criteria are met, can be upheld.

Other options include setting up a trust fund or alternatively a declaration of trust which explains who has a financial interest in a property. This might state that in the event of a separation, the deposit is returned to your child, or perhaps stipulate that they own a larger share of the property in light of the financial gift.

As these topics are complex both financially and legally, it is always advisable to seek professional advice if seeking to ensure the money you gift is protected solely for your child.

Will I have to pay tax?

While gifting cash or assets early can reduce the value of an estate and potentially reduce or keep it below the Inheritance Tax (IHT) thresholds, the flip side is that parents need to consider the impact of any tax implications today.

You can give away a total of £3,000 worth of gifts each tax year without them being added to the value of your estate. This is known as your ‘annual exemption’. You can give gifts or money up to £3,000 to one person or split the £3,000 between several people. You can carry any unused annual exemption forward to the next tax year - but only for one tax year. Each year you can also gift £5,000 towards a wedding if you’re a parent, or £2,500 if you’re a grandparent.

Amounts that exceed these tax-free gifts will be treated as a potentially exempt transfer (PETs). Provided you live for a further seven years they will be exempt from tax and not count towards the value of your estate. However, if you were to die within this period, all, or part of the value of the gift would be dragged back into your estate for IHT purposes.

Don’t underestimate your own retirement needs

If you’re in good health, you could spend at least two or three decades in retirement, so before deciding to gift money from your cash savings, investments, or pension, you need to understand what impact financially supporting your children or grandchildren may have on your own ability to enjoy a comfortable retirement.

For instance, should you consider accessing your private pension? There are a number of reasons this may not be beneficial or tax-efficient. Firstly, this would reduce the amount you could contribute tax-free from £60,000 a year to just £10,000, and it would also reduce the potential for your pension to grow and compound at the same rate as before.

Another key reason to consider is that money held in your pension already sits outside your estate. By taking money out it is no longer protected from IHT. Therefore, should you die within 7 years the gift will either become subject to IHT, or use up some of the available nil rate band bringing other assets into play. If the gift was made into a discretionary trust this may become subject to an immediate tax charge (as a chargeable lifetime transfer) if the value of this exceeds remaining nil rate band.

You also need to consider the rising costs of care and ensure you have enough resources to cover these potential future expenses.

Talking to a financial planner about your retirement pot and how much you can afford to gift in your lifetime will give you this clarity. Financial planners use cashflow projections to calculate how long your money is likely to last in retirement, and whether the income meets your needs and expectations.

They can then model various scenarios based on the sums you’d like to gift to your children or grandchildren to show you what impact that would have. They can also help you address any potential shortfall, while ensuring your money is invested in ways that achieve the best available income.


* Source: Bank of family Report, L&G 2023

Please get in touch if you’d like to speak to one of our financial planners today.

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Tax treatment is dependent on individual circumstances. This information is provided in good faith and is based upon our understanding of current tax law and HMRC practice, which may be subject to change in the future.

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