Countering rise in school fees

Andrey Popov - stock.adobe.com

Labour’s landslide victory could land Edinburgh parents with pupils at private school with a massive new tax charge of £160,000 over the course of their children’s education.

This figure emerged in a report in The Telegraph on 6 July, assuming average annual fees of £18,063 each for three children over 13 years.

The effect of Labour adding VAT to school fees will impact Edinburgh residents more than almost any other region of the UK. On average, 7 per cent of students in the UK attend private schools. In Edinburgh, however, that rises to a staggering 25 per cent, according to The Scotsonian newsletter of August last year.

So what can parents do to try to soften this blow?

At Waverton, we have introduced many of our clients to the significant tax benefits provided by offshore investment bonds. These can protect invested assets from the recent capital gains tax and dividend allowance cuts.

Outgoing Tory chancellor, Jeremy Hunt originally cut the threshold for capital gains tax by more than 50 per cent, from £12,600 to £6,000, in 2023/24. But he then cut it in half again to £3,000 for 2024/25, and the annual dividend allowance is now worth a mere £500.

A simple rebalancing of a portfolio can now trigger negative capital gains tax costs. This can be difficult when you are funding for a specific timing event, such as school fees.

Financial planners have always taken advantage of bonds, however, given these upcoming changes, they might now prove to be more useful than ever.

So why do we believe that the use of bonds for funding school fees might become more popular?

Offshore bonds are popular and are highly regulated and financially protected, based in jurisdictions such as Dublin and the Isle of Man. Being administered in these locations allows them to offer significant tax advantages to UK-based investors.

There are five main reasons  we expect such bonds to become more popular for funding school fees:

1 Tax efficiency - These tax wrappers can hold all your normal invested assets such as shares, funds, bonds, and cash. But the tax advantages offered by the locations that they are based in allows these assets to grow completely exempt from local taxes, UK income tax and UK capital gains tax. And remember too that threats of further negative changes to capital gains tax cannot be ruled out.

2 Asset protection - Offshore bonds must legally be held in a distinct equity structure separate from the investor and safeguarded by strict local jurisdiction laws on a par with – and often greater than – UK investor protection.

3 Flexibility - There is no limit to how much of your wealth that you can invest in these structures.

4 5 per cent annual income option - You can take 5 per cent of your original investment annually, including top ups, as a return of capital for 20 years without paying any income tax during that period.

5 School fees tax planning advantages - Bonds also offer a tax-efficient means of providing annual school fee payments. Parents can avoid or reduce tax further by placing the offshore bond in a “bare” trust, naming themselves as trustees and the children as beneficiaries. The bond can be split into smaller policies allowing for total flexibility when fees are required. Each policy can be assigned to the child and targeted to pay one term of fees. This means that when encashed any tax will be payable by the child not you. This should fall within their personal allowance and therefore be tax free.

When structured correctly any remaining invested assets held in the bond after your child’s education can also pass free of Inheritance Tax to your family when you have gone.

And, of course, Inheritance Tax is yet another area the new government could target for increased revenues.

There are many more factors to consider before you choose to invest in a bond, not least of which is how to best set it up at the outset to avoid potential income tax penalties on encashment. But the many benefits of offshore bonds, when used tax efficiently, are certainly well worth a much closer look before the new VAT charge on school fees come into effect later this year.

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