Making cash gifts is one of the ways parents could build up the wealth of their children and simultaneously reduce their Inheritance Tax (IHT) bill.
Establishing a Junior Individual Savings Account (ISA) and a child's stakeholder pension plan are the other two ways of using your tax benefits wisely to potentially turn your child into a millionaire by the time they reach 38, Joanna Robinson from the Daily Mail calculates. Of course, this would work if you have enough money to set aside on a regular basis and would be twice or three times costlier if you have two or three children.
With the Junior ISA for children born after 1 January 2011, parents can save a maximum of £3,600 free of taxes in each tax year. With returns of 3% for a cash ISA and around 6% for an investment ISA (assuming the rates stay intact), this £3,600 a year would swell to £85,782 and £116,205, respectively, by the time your child reached 18. This is the first step in accumulating your child's wealth.
Gifts into trusts come second. Gifts are not charged IHT as long as you live seven years after making the gift. Small gifts of up to £250 per individual per tax year are IHT-free. The same goes for wedding gifts worth up to £5,000. Gifts with a total value of £3,000 a year per person are also exempt from IHT as are any regular gifts or payments of any amount you make out of your after-tax income, provided that you keep your lifestyle unchanged after such payments. Contributing £3,000 a year to your child from birth, and using investment funds or trusts to generate good return, would boost your donation to £436,064 by the time your child turns 38, assuming an average compound growth rate of 5% after taxes. Now, if you re-invest the £116,205 Junior ISA pool in the 20 years until your child turns 38, you will have £314,666 added to the £436,064 pot from gifts, or a total of £750,730.
Through contributions to a child's stakeholder pension plan at £2,880 a year (or the top annual investment of £3,600 less the tax relief of £720) and taking into account a 6% compound growth rate, you would have £523,278 by your child's 38th birthday. This makes a total of £1.3m for your child against nearly £260,000 in aggregate costs to you over the 38-year period.