If you’re looking to build a nest egg for a child you might be considering a Bare Trust.
Trusts are a great way to manage assets intended for other people. They can be set up to protect or pass on family monies, or to hold benefits for someone too young to handle financial affairs themselves.
Here’s your guide to Bare Trusts.
What is a Bare Trust, and when might you choose one?
A Bare Trust is a simple, legally binding way for a trustee (you) to hold assets on behalf of a beneficiary (in this case, your child or grandchild).
It’s sometimes known as an ‘absolute trust’ because when the child turns 18, the absolute right to the capital and assets within the trust falls to the child and they have the choice of what to do with it.
Parents or grandparents can use a trust to put money aside for a child or grandchild, providing that child with the money for university fees or the deposit on a first house.
As we’ll see, they are also tax-efficient for you.
Reasons to choose a Bare Trust
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There is no limit to the amount that can be placed in trust
Junior ISAs (JISAs) and pensions come with annual allowances that cap the amount that can be invested but no such limits apply to the assets that can be held in a Bare Trust.
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Assets belong to the beneficiary for tax purposes
Once invested, assets are treated as belonging to the beneficiary, which can have tax benefits. A child has the same personal Income Tax allowance (£12,500 for 2019/20) and Capital Gains allowance (£12,000 in 2019/20) as an adult. The sums involved will likely fall within these allowances and therefore no tax will be due.
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Quick access to assets
Assets can be withdrawn at any time, though they must be used for the benefit of the child.
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Inheritance Tax (IHT) efficiencies
There may be long-term IHT benefits. Assets will likely fall within an IHT exemption or be a Potentially Exempt Transfer, meaning if you survive seven years beyond making the gift, it will not form part of your estate for IHT purposes.
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You don’t need to be a parent to set one up
A grandparent can set up a Bare Trust on behalf of a grandchild.
Reasons not to choose a Bare Trust
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Possible lack of control
You might feel you lack control as from the age of 18 the beneficiary chooses what they do with their assets. You might worry that the investment will be used irresponsibly, or in a way that you didn’t intend.
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Parental gifting could result in tax being due
If you set up a Bare Trust on behalf of a child or stepchild and give a monetary gift, any resulting income above £100 per annum gross, will cause all of the trust’s income to be taxed as if it is yours. This is not the case with a monetary gift from a grandparent.
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They’re inflexible
Once you choose the beneficiaries for a Bare Trust, they can’t be changed.
Alternatives to a Bare Trust
There is more than one way to provide a nest egg for a child. Different options come with different maximum amounts, different levels of control for you, and different ages at which the assets can be accessed.
1. Pensions
Pensions are tax-efficient but inflexible. The money you put aside for a child is tied up until the child reaches retirement age (currently 55 but likely to rise in the future). This could make for a significant gain over the life of the plan but it can’t be used to help towards university fees or the deposit on a house, for example.
A pension can only be set up by a parent or guardian but once setup grandparents can contribute to it. Pensions are subject to an Annual Allowance though (£3,600 gross for the 2019/20 tax year), so the amount you can pay in and still receive tax relief will be capped.
2. JISAs
A JISA can only be set up by a parent or guardian but grandparents are free to invest on the child’s behalf, up to the JISA allowance. As with a Bare Trust, a JISA rolls over into an adult JISA at age 18 and the child will have full control over how the investment is used.
JISAs are tax-efficient, there’s no Income Tax or Capital Gains Tax to pay on returns but you will be subject to the annual JISA allowance. This caps the amount you can invest in a JISA at £4,368 for the 2019/20 tax year.
3. Savings accounts
A bank or building society account can get a child into the saving habit from an early age and provide valuable lessons in money management.
You can set up a savings account for anyone under the age of 18 with only a small initial outlay. Money can be withdrawn immediately and doesn’t have to be used to benefit the child. You have limited control over the account, although, as returns frequently don’t keep pace with inflation, it may not be the best choice for long-term investment.
4. Other forms of trust
A Bare Trust isn’t the only type of trust, but it is the simplest. It can be especially useful for grandparents looking to save for a grandchild’s university fees or the deposit on a first house.
Other types of trust might give you greater flexibility and control but the tax treatment might also differ. Trusts can be complex and it’s not easy to know if they are the right choice for you.
If you’d like to discuss the best way to provide a nest egg for a child or grandchild, get in touch. Please email info@investmentsense.co.uk or call 0115 933 8433.
Please note
A pension is a long-term investment. The value of your investment can go down as well as up and you may not get back the full amount you invested, which would have an impact on the level of pension benefits available.
The Financial Conduct Authority does not regulate Trust advice. Levels, bases of and reliefs from taxation may be subject to change and their value depends on the individual circumstances of the investor.
