Two figures at law firm Thomson, Snell and Passmore have written an article discussing the tax implications when HNW families help children and grandchildren to get on the property ladder.
Getting on the property ladder is becoming a harder task for the youth of today, even high net worth millennials, who have acquired their large sums of wealth. Most millennials are turning to the bank of mum and dad to help them purchase their first property. Stuart Goodbody, partner and head of trust management, and Sarah Nettleship, associate in the private client team at law firm Thomson, Snell and Passmore have written this article discussing the tax implications that high net worth families may have helping out their children and grandchildren to get on the property ladder.
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The plight of millennials and generation Z being unable to buy their own houses is a hot topic in the media at the moment. But whether or not younger generations in the UK really are unable to buy properties due to their penchant for avocado on toast or not, a great number are struggling to get on the housing ladder. Some are lucky enough to have parents and grandparents who are able to help them. Research suggests that as many as half of successful first-time buyers have received help from their families.
But how can those who want to help their children, or other relatives, do so and what are the tax implications?
For the parent unable or unwilling to part with savings, the mortgage market has developed a number of specialist products that are collectively known as ‘guarantor’ mortgages. Such arrangements carry a number of risks for the parent depending on how the mortgage is set up and advice should be sought about the risks before proceeding.
A parent can lend money to their child. The loan can be interest bearing or interest-free. The amount that has been lent will still form part of the parent’s estate for inheritance tax on their death if still outstanding at that time. Any interest that is charged will attract income tax at the parents’ marginal rates.
The terms of the loan should be recorded in writing and should make it clear that it is a loan and not a gift. If the loan is waived in the future, it will become a gift at that point and form part of the parent’s seven-year clock for IHT from the date of the waiver and not the date of the original loan. The waiver itself should also be in writing.
It would be preferable for such a loan to be secured by legal charge against the property title to protect repayment in the event of the child’s financial or relationship difficulties. However, a mortgage lender is unlikely to be happy with this which increases the risk that the parent might not get all their money back.
Another option would be to join in the purchase. The parent will have more protection and can also share in any future growth in the property value.
If a mortgage lender is unhappy with the arrangement, the child could be the only registered proprietor with sole responsibility for the mortgage. but the parent could own a beneficial share in the property (subject to the mortgage) set out in a declaration of trust.
There are disadvantages with this option. On the sale of the property, the parent’s share would be subject to capital gains tax (CGT) as it will not be their main residence. Moreover, the higher rates of Stamp Duty Land Tax (SDLT) (the additional 3 per cent) will apply for the whole property (and not just the parent’s share) when the property is bought if the parent already owns their own home.
An outright gift of cash is probably the most tax efficient way to help a child onto the property ladder. The gift will not form part of the parent’s estate for IHT after seven years has passed. A gift will also avoid the CGT and SDLT issues associated with part purchase. However, the parent will be sacrificing control over the money given away. It is also worth noting that an outright gift to a child will be vulnerable if that child faces matrimonial or financial trouble in the future.
If a parent wishes to combine reducing the value of their own estate for IHT and retaining control over the funds given, they could consider transferring cash into a trust before buying the property, or part of it, for their child using trust funds or lending the funds to the child from the trust. If the child is later deemed sensible and secure enough to receive an outright interest in the property, trustee powers can be used to facilitate this. The gift into trust will be a gift for IHT purposes and will not form part of the parent’s estate for IHT after seven years has passed, but such transfer should be limited to the value of the nil rate band (£325,000 currently or £650,000 if both parents are contributing) to avoid an immediate IHT liability.
If the trust purchases or part purchases the property, the higher rates of Stamp Duty Land Tax (SDLT) will apply if a discretionary trust is used. It will be more appropriate to use a life interest trust for this purpose instead so that the higher rates will not apply (unless the child already has a stake in another property). Both types of trust are particularly efficient for CGT where the property is the child’s main residence.
Trusts have their own inheritance tax regime and if the funds in the trust, including the value of any outstanding loan, exceed the available nil rate band(s), some IHT will be payable every 10 years.
If a parent has recently inherited money, they could consider using a Deed of Variation as a way to help their children onto the property ladder. There is a two-year window from a person’s death in which to vary the inheritance received tax efficiently. The variation creates a tax fiction whereby the funds are deemed never to have been in the recipient’s estate in the first place and so will be out of their estate immediately and not on their seven-year clock.
In the variation, the parent could give the funds straight to the child or they could create a discretionary trust in which they and their children are beneficiaries. As above, the trust could fund part of the purchase or lend the child the money to purchase a property. When the money is eventually paid back to the trust, the parents can enjoy the use of the funds without the funds forming part of their estate for IHT purposes.
A parent should consider what sort of help they wish to give their children before going ahead. Can they afford to be so generous and are they comfortable with the level of risk to the capital? Do they want the capital back in the future? They should thoroughly research the mortgage market and get proper legal, investment and mortgage advice at each stage of the process.