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Tax Doctor: Investment bonds meet spiralling education costs

Tax Doctor: Investment bonds meet spiralling education costs

Gerald and May find the most tax-efficient way to pay their granddaughter’s private school fees is to make a gift into a bare trust.


Lending from the bank of grandma and grandad has surged in recent years. This trend is likely to continue as over 60s hold a substantial proportion of the nation’s wealth.

Gerald and May are in their early 70s and have enough provision for a comfortable retirement. They are starting to think about how they can help their daughter, Margaret, and her three-year-old daughter Beryl, their granddaughter.

Margaret wants to send Beryl to private school, but is struggling to cover the extensive costs.

The school Margaret has in mind costs £13,600 a year. Gerald and May hope to pay for the next 14 years of Beryl’s schooling so plan to put aside £250,000. But they are worried about the tax consequences.


Gerald and May discuss their aspirations with their IFA. She recommends an investment bond within a trust, with Beryl as the beneficiary and Margaret as the trustee.

A gift into a bare trust is treated as a potentially exempt transfer (in the same way as if the gift was made directly to the beneficiaries). This means, if Gerald and May live for seven years after making the gift, it would fall outside their estate for inheritance tax (IHT) purposes.

They invest £250,000 into a bond, which is segmented into 1,000 policies of £250. This offers the flexibility to alter scheduled policy encashment. So, when school fees are due, Margaret will surrender individual segments.

Because the bond is under a bare trust, the gain is assessed on Beryl who is a non-taxpayer, being a schoolgirl without any earnings or investment income.

If there is any money left over from the trust after the fees are paid, Beryl will be completely entitled to whatever is in it at age 18.

Longevity risk

Gerald and May are satisfied with this method of paying school fees and so they and their adviser go to discuss it with their daughter.

She is happy for the trust to be in Beryl’s name but is worried what would happen if Gerald or May die before she has finished school.

The adviser explains, because the bond is in a trust, the money for the school fees will be held in the trust, outside the couple’s estate no matter what.

However, if they died within seven years of the trust being created, it will no longer be a potentially exempt transfer and will be a chargeable transfer for tax purposes.

As Beryl approaches 16, she expresses an interest in university. Gerald and May, who are still in good health and have enough capital to last their retirement, say they will help fund this part of her education as well.

They go through the same strategy of using an investment bond and a trust to help her fund three more years of fees.

Rachael Griffin is a tax and financial planning expert at Old Mutual Wealth

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