The “Bank of Mum and Dad” will help half of all first-time buyers onto the property ladder this year, with parents gifting or loaning an average of £58,000. 

Family members are expected to hand out a record £9.8 billion to their children in 2021, according to forecasts by estate agency Savills. The Bank of Mum and Dad, and its counterpart the “Bank of Grandma and Granddad”, has been heavily relied upon thanks to extortionate house prices, but generous benefactors should be aware of tax traps along the way. 

For generations the notion of trusts have been associated with the super-rich and their popularity has waned in recent years. However, they can be a handy means of managing inheritance tax for parents or grandparents hoping to ring fence wealth for a loved one’s future. 

Putting money into a trust, as opposed to straight-forward gifting, also protects against the risk of funds being squandered by young beneficiaries or lost to failed relationships. 

Inheritance tax savings 

When money is transferred into a trust, if certain conditions are met it is not no longer included in the benefactor’s estate for inheritance tax purposes.

But this does not mean parents or grandparents lose control of the funds altogether.

Clare Jeffries, of law firm Russell-Cooke, said: “You can put money into a trust for children and grandchildren to purchase a first home, but remain as the trustee so you decide how and when that money is distributed to the beneficiaries.

“In terms of the donor’s IHT planning, placing assets into a trust can remove them from the donor’s taxable estate, avoiding the 40pc IHT charge, provided it is done at least seven years prior to the donor’s death.”

The seven-year clock begins counting down as soon as the assets are placed in a trust, although funds can also be added in stages rather than as one lump sum. 

“It can similarly be distributed to the beneficiaries all at once or at intervals – for example, to give to each of several beneficiaries a deposit to assist in buying a property as and when they need it, or to meet other costs of purchase such as mortgage repayments,” said Ms Jeffries. 

When a parent or grandparent sets up a trust they decide the rules of its management, such as if the beneficiary receives the funds at a certain age. The trust can also pass through generations, because they can last up to 125 years, and therefore both parents and grandparents can use it to pass on wealth to unborn children or grandchildren. 

Tax traps

The maximum which can be placed into a trust within the current available IHT allowance is £325,000, and a couple could transfer up to £650,000 in this way.

This would use up the tax-free threshold for the next seven years, but after this time the exercise could be repeated. 

However, there is an administrative burden attached to trusts, such as regular tax returns, accounts and, depending on the type of trust, income and capital gains tax to be paid. In some cases it may be more straightforward to outright gift first-time buyers their deposit. 

“The administrative burden may be a price worth paying in order to retain some level of control and protect the assets against the bumps in the road that young people can often encounter,” said Ms Jeffries. 

Placing house deposit funds in a trust not only helps protect money from the taxman, but also family fall-outs, marriage breakdowns or naïve spending. 

Ms Jeffries added: “If there are concerns about a young person’s relationship or ability to handle money, then the trust could lend the money instead of giving it no strings attached. 

“The trust then has the ability to call the funds back to repay the loan, rather than see them disappear on breakdown of a relationship.”

There are several types of trusts and whilst the simplest come at a minimal cost, more complicated structures have strict tax rules and can incur hidden costs, Ms Jeffries warned.