Is this the perfect Christmas present for your grandchild?
Imagine the scene, a blanket of fresh snow on the ground as you walk up to your child’s house, safe in the knowledge you have got this year’s present for the grandchild in the bag – it’s a winner. After all, you have used the same gift for the past three years and watched as your grandchild opens the envelope and gazes at the pension contribution cheque with excitement and happiness in their eyes.
Hopefully I have not lost you with that last bit, because it’s the most important part of this Christmas scene. Not only does an annual pension contribution make sense for the grandchildren, it also makes sense for the grandparent as well.
Anyone can invest into the pension on behalf of a child, as long as the plan is established by a parent or legal guardian. Therefore, a grandparent can contribute a maximum of £2,880 on behalf of the grandchild. This is subject to tax relief in the normal way, grossing up the contribution to £3,600. Do this each year until the child is 18, and assuming investment growth of 6.5% by the time the grandchild reaches 60 a recent study showed the pot would be worth just under £1m!
This has added benefits for the grandparent as well – in terms of inheritance tax (IHT) planning. If these payments are outside of regular income (i.e. do not impact on the grandparent’s standard of living) they are immediately outside of the estate for IHT, along with the investment growth in the pension. £2,880 per annum may not sound a lot, but over 18 years this works out as £51,840 – a sizeable amount. Furthermore, if this is part of a wider IHT strategy, the contributions do not affect the grandparent’s ability to make larger gifts in the future.
There are of course factors to consider; is £2,880 each year affordable, both now and in the future as if there are more than one grandchild the contributions could get expensive? Equally there is no guarantee of a 6.5% return each year. The flip side to this argument is that if an individual is serious about IHT planning the cost may be something they are happy to bear and with the suitable advice at least there is an expert on hand to try to make sure investment returns are positive.
Overall, although our introduction creates a Christmas card like scene of perfection, there are tangible benefits. As always, advice is needed surrounding whether the payments are affordable for the grandparent and the correct pension structure to use. The upshot is though that a simply contribution if affordable each year, will give the grandchild a fantastic starting position for their pension – and one which can almost set them up for life.
Martin Jarvis is associate consultant and Karena Woodall is consultant at Mattioli Woods