Another approach when it comes to saving & investing for children’s futures is a Bare Trust.
Like a Junior ISA, the Bare Trust is in the child’s name and they get full access to it when they turn 18. However, unlike a JISA, money can be used before the child turns 18 provided it’s used for the child’s benefit. This extra flexibility makes it an attractive option when saving up for private school fees or extra-curricular activities like music lessons, sports camps or any other large costs you may incur before they are 18..
While the extra flexibility can be really attractive, a Bare Trust is not as tax efficient as a Junior ISA and you (your child) could be liable to pay income tax or Capital gains tax depending on how much you contribute and how it grows. How much tax you’re liable to pay also depends on a few factors which we’ve tried to summarise for you below. If you’re unsure about your own circumstances then it may make sense to speak to a financial adviser or accountant.
If the money in the Bare Trust has been contributed by the parents, then any income above £100 from the trust (think dividends or interest) is taxed as the parent’s own. This is designed to stop parents using a Bare Trust as a way of increasing their own tax allowances.
The £100 limit is per parent, so providing that both parents have provided separate contributions, the child can receive up to £200 income from the trust each year without paying any tax.
If the money has been gifted from non parents (think grandparents, godparents etc.) then any dividend or interest income from the trust is treated as the child’s own for income tax purposes. If this is the case then the child can use their own personal allowance limit (£12,500 currently for the 2020/21 financial year).
This feature is one of a number that make Bare Trusts really attractive when grandparents are the ones contributing.
Like us, children also have a capital gains tax (CGT) allowance each year. For this financial year (20/21) the allowance is £12,300. So this means your child only ever has to pay tax if they sell the investments and make over £12.3k profit in a single year.
How likely this is to happen really depends on how much you’re saving for them each year and how much you withdraw in a given year. For example, if you contribute £65 a month from the day your child is born and the money grows at 5%, then at the age of 18 you would have contributed just over £14k and the balance of the trust would be just over £25.5k. So even in this scenario, your profit would be less than £12.3k if you sold all the investments at once. If you’re interested in a few more examples of how capital gains tax works, head over to this post.
A Bare Trust is just a legally binding way of registering an investment you’ve made for someone else and is not its own financial product.
While technically speaking anyone can set up a Bare Trust, in order to avoid any potential tax issues, it’s usually best to open one through a professional service who can make a formal declaration of the trust to HMRC.
This is usually done through a solicitor or financial adviser however at Hapi we are working on bringing Bare Trusts to our platform and allowing you to create one without requiring a solicitor or adviser, simplifying the process as much as possible and making Bare Trusts more accessible to parents.
When investing, your capital is at risk and may be going up as well as down which means you may be left with less than your initial investment. This article should not be read as personal financial advice. Individual investors should make their own decisions or seek independent advice. Past performance isn’t an indicator of future performance. Please note that tax treatment depends on the individual circumstances of each client and may be subject to changes in the future.