Children grow up fast, my eldest is just starting secondary school and she seems to be growing up at a rate of knots! For parents, there are many ways to encourage them to take control of their finances from a young age into adulthood.
Everything from new pocket money apps to bringing in allowances for spending on their clothes rather than relying on their parents.
With millions of younger workers now having a pension for the first time perhaps making very modest contributions, an option many grandparents and parents are unaware of is that they can also contribute to their children and grandchildren’s pension pot too.
A campaign launched by mutual insurer Royal London highlights the ‘hidden advantages’ of making such pension contributions on behalf of children.
The pension contribution by the parent is treated as if the recipient had made it. For example, if a parent pays £800 into their child’s pension, the recipient will get basic rate tax relief on the contribution, increasing the amount in the pension pot up to £1,000.
Also, there are two further benefits to the child receiving the pension contribution:
If the child is a higher-rate taxpayer – which is a possibility for adult children who progress quickly in their careers – they can claim higher rate relief on the contribution made by the parent; this would be done through the annual tax return process and would reduce the tax bill of the recipient;
If the recipient is affected by the ‘high-income child benefit charge’ and is earning in the £50,000-£60,000 bracket (or slightly above), the money contributed by the parent is deducted from their income before the high-income child benefit charge is worked out, thereby reducing their tax charge.
For example, if the recipient is earning £60,000 a year and therefore faces a child benefit tax charge of 100% of their child benefit amount, a pension contribution made by the parent of £8,000 (grossed up to £10,000 by the addition of basic rate income tax relief) would reduce the recipient’s income to £50,000 for purposes of the child benefit charge and would completely eliminate the tax charge.
Is it only benefiting the child? Not necessarily.
Contributions may also reduce future inheritance tax bills if they qualify for one of the standard exemptions such as gifts made from regular income.
The amount that the parent can contribute with the benefit of pension tax relief is not limited by the parent’s pension tax relief limit (known as their annual allowance) but by the annual allowance that their children face – which in many cases will be up to their yearly salary, or £40,000, whichever is the lower.
Higher earners, with income over £100,000 a year, however, face a reduced annual allowance, which can be as low as £10,000 a year, depending on the size of their relevant earnings.
Making a pension contribution on behalf of children is not an option for every parent.
But if they have some spare cash and maybe they have reached the limit of their pension contribution, then why wouldn’t they want to help improve their children’s long-term financial security.
Jon Doyle is Founder and Financial Planner at Juniper Wealth Management. Advising clients since 2008 he has guided clients through good time, bad times and the ugly. With a clear vision on how advice should be delivered and strong opinions on how we should be investing money in order to live the life we want to live free from money worry.