Have you lent or given money to your child? Did you consider the tax implications? Make sure your branch of the Bank of Mum and Dad doesn’t end up with a shock tax bill.
Tax considerations for the Bank of Mum and Dad
The Bank of Mum and Dad is becoming a powerful financial institution in the UK. It is the fifth biggest lender in the country when it comes to property purchases with £6.5 billion of loans.
We've already written at length about your various options if you choose to help your child onto the property ladder.
However, this piece will look specifically at the surprising tax consequences of doing so.
“A kind gesture could land parents with tax problems if advice is not taken as there may be a more tax efficient way to help out,” says George Bull, senior tax parent at RSM.
Here are four tax traps to watch out for.
1. Inheritance Tax
The most obvious tax problem that you need to consider when helping our your children financially is inheritance tax.
Give your child more than £3,000 in a year and the money will be classed as a ‘potentially exempt transfer’.
This means if you die within seven years of giving the money it will class as part of your estate and be liable for inheritance tax if your whole estate is worth more than £325,000.
There are several ways you can avoid this.
Firstly, you can give anyone up to £3,000 a year and it is immediately exempt from Inheritance Tax (IHT).
Secondly, the year your child gets married you can give them an extra £5,000.
Thirdly, if you give your child money out of your income – that doesn’t affect your standard of living – that is exempt from inheritance tax.
So, giving your child smaller regular amounts to help them will help you avoid any inheritance tax issues.
Head this way to read more about reducing your Inheritance Tax bill.
2. Income Tax on interest payments
If you choose to loan your child money then you also need to consider the tax implications.
“If the children pay interest to the parents, then this is taxable,” warns Bull.
“If the parents borrowed money, perhaps against their own home, it is unlikely that they will get any tax relief on the interest they pay; meaning that if children simply cover their parents’ interest costs, the parents could still be worse off after tax.”
3. Additional Stamp Duty
Opt to avoid the perils of tax on interest by becoming a co-owner of the property and you face a different tax problem – Stamp Duty.
If you already own your home and agree to co-purchase a property with your child, your part of the purchase will be liable for the additional rate of Stamp Duty, as it will be a second home.
This means there will be an additional 3% tax due on the purchase price of the property, on top of standard Stamp Duty.
4. Capital Gains Tax
Buy a house with your child and stamp duty isn’t the only tax you’ll have to consider.
Presumably, you won’t be living with your child in their new home, which means your part of the property will be liable for capital gains tax when you choose to sell, either on the open market or to your child.
The Bank of Mum and Dad has become a key money lender in this country and, as a result, it has drawn the attention of the taxman.
Before you give or lend money to your child make sure you understand what your tax position will be.
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