Could your little savers mean a big tax bill?

You want your children to build good financial habits. Saving is probably one of the most important habits of all.

It can be surprisingly easy to encourage young savers.

Your children love to test their counting skills and see how coins and notes mount up (if your household still has such things). Even more exciting is watching money build up on screen in an online savings account, particularly when the magic of interest means their money grows by itself.

It’s a habit that can pay off with a substantial nest egg for their future. With some help from relatives at birthdays and Christmas – and even more help from a few years of compound interest, it could grow into a worthwhile education fund, or a deposit on a first home. 

But will your good intentions result in a hefty bill from the taxman? 

Their savings. Your tax bill

Most of us are in the dark about how tax is levied on interest earned on children’s savings accounts. A vague feeling that because children don’t work, the taxman does not bother about them might leave us to think that the interest they earn is always tax-free.

In fact, parents can be liable for tax as soon as their child starts earning £100 in savings interest on money that has been gifted them, it could become taxable. And it will be treated as part of your personal savings allowance (PSA) – not your child’s. 

The personal savings allowance is the amount of savings interest you are allowed to earn without paying tax.  It varies on which tax bracket you are in, which is determined by the taxman based on your annual income.

  • Basic rate: If you are a basic rate taxpayer with an annual income of up to £50,270 your PSA will be £1,000 per year.
  • Higher rate: If you are a higher rate taxpayer with an annual income up to £125,140) your PSA will be £500 per year.
  • Additional rate: If you are an additional rate taxpayer with an annual income of over £125,140) you don’t have a PSA at all.

What this means is that your child’s savings will be counted with your own, and you will be paying the tax on the interest. Higher interest rates now make it even easier to get over the PSA threshold, and the taxman will  take a share of the interest your savings earn.

But there are ways to potentially reduce your tax bill. 

Sharing the burden

The £100 limit only applies to money given to the child by parents. Two parents can each give, sharing the gift-giving and potentially avoiding the tax liability.

But you’ll need to keep careful track of who gave what and be able to prove it to the taxman. A simpler solution is to make sure that your children have the right kind of savings account – a Junior ISA.

The power of the Junior ISA

All ISAs are designed to make saving or investing more worthwhile, by removing almost all of the tax liabilities. A Junior ISA is as the name suggests an ISA aimed at a tax-efficient wrapper that lets you to save and invest on behalf of your child, up to the age of 18 without paying income or capital gains tax.

Parents can put up to £9,000 into a Junior ISA each year. This allowance renews annually on 6 April and belongs to the child. So, a Junior ISA not only means no tax to pay on your child’s savings, but it also won’t eat into your own £20,000 annual ISA allowance.

Interest rates are currently high, so putting your child’s savings into a Cash Junior ISA could be very worthwhile – although you could also consider the less secure, but potentially more rewarding option of a Junior Stocks and Shares ISA, turning your young saver into a young investor.

Your child can actually have a Junior Cash ISA and Junior Stocks and Shares ISA, but they can only have one Junior Stocks and Shares ISA throughout their entire childhood. So, you need a provider that you’re happy with. 

To find out more about Junior ISAs, tax, and the financial outlook for yourself or your family, simply call us at Continuum.

The information contained in this article is based on the opinion of Continuum and does not constitute financial advice or a recommendation to suitable investment strategy, you should seek independent financial advice before embarking on any course of action.

The value of an investment can go down as well as up. Capital is at risk when investing.

Stocks and Shares ISAs do not include the same security of capital which is afforded with a deposit account.

The Financial Conduct Authority does not regulate taxation advice, school fees planning and deposit accounts.

Levels, bases and reliefs from taxation are subject to individual circumstances and may be subject to change.

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