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Children and income tax

The Which? guide to tax when you're gifting money to children. We explain the rules and how parents can avoid falling foul of the '£100 rule'.

In this article
Do children pay income tax on their savings? Do parents pay tax on their children's savings?
Can children have a Junior and adult Isa? How do I reclaim tax on children's savings?

Do children pay income tax on their savings?

Technically, yes - children are liable to pay tax on savings, as they have the same income tax allowance as adults.

It's uncommon, though, as children generally don't earn money, and their savings don't tend to earn enough interest to exceed any tax thresholds. 

Like adults, children get a personal tax-free allowance, which is how much income they can earn before paying any tax. This is £11,850 in the 2018-19 tax year, increasing to £12,500 in 2019-20.

If this income is from savings interest, there are extra tax-free allowances in addition to the personal allowance, allowing a child to potentially earn up to £18,500 tax-free in the 2019-20 tax year. 

 

The personal savings allowance

The personal savings allowance allows you to earn £1,000 in savings interest tax-free if you pay no income tax or the basic-rate of tax.

This bumps up the total amount they can earn free of income tax from £12,500 to £13,500 in the 2019-20 tax year. 

If a child's income does exceed the personal allowance - which could be the case if they receive money from a trust, for example - you must inform HMRC, and, depending on how much money they receive, tax may be owed.

Find out more in our guide to the personal savings allowance explained

The savings 'starter rate'

In addition to this, the savings starter rate is designed to encourage low earners to save, by giving them an extra tax-free allowance on savings interest.

If your income is equal to or less than the personal allowance, you can earn up to £5,000 in savings interest tax-free, pushing the total amount they could earn tax-free, inclusive of the personal savings allowance, to £18,500.

But for each £1 earned over the personal allowance, the savings starter rate will reduce by £1.

Here, we explain how it works in a few scenarios:

 

If you earn £10,000...

 

Your salary is below the personal allowance (which is £12,500 in 2019-20), meaning you are eligible for the full savings starter rate, and a £1,000 personal savings allowance

Therefore, any money you hold in a savings account can earn £6,000 of savings interest in each tax year before you'll have to pay any tax on it.

Considering today's interest rates, you'd have to have a large savings pot to be anywhere near exceeding that amount.

 

If you earn £15,000...

 

You earn more than the personal allowance, but still qualify for some of the savings starter rate.

As your salary exceeds the personal allowance threshold by £2,500, the savings starter rate will be reduced by the same amount, leaving you with £2,500.

You also qualify for a £1,000 personal savings allowance.

This means you can earn up to £3,500 in savings interest in each tax year before having to pay any tax on your savings.

 

If you earn £30,000...

 

You exceed the personal allowance by more than £5,000, so you don't qualify for the savings starter rate.

However, as you're a basic-rate taxpayer you still qualify for the £1,000 personal savings allowance. T

his means that the first £1,000 of savings interest earned in each tax year will be tax-free.

Do parents pay tax on their children's savings?

If you're a parent and want to put some money into your child's savings account, there are some strict rules in place to stop you using their tax-free allowances as a way of cutting down your own tax bill.

If the interest on the savings you put into your child's savings account exceeds £100 a year before tax (or £200 if both parents give money), all of this interest (not just the amount over £100) will be added to your savings income, and taxed as if it were your own.

This could mean you're unexpectedly pushed over your personal savings allowance and will have to pay tax on the savings interest.

The £100 limit applies to income from gifts from parents, step-parents, or guardians only – not other family members, such as grandparents, or friends.

Consider tax-free savings accounts

If income from your gift is likely to breach the £100 limit, then you should consider paying into a tax-free investment. This can be a cash child trust fund (CTF) if you opened one before December 2010, or a tax-free Junior Isa.

There's a limit to how much you can pay into a Junior Isa each tax year; for 2018-19 annual limit is £4,260, which will increase to £4,368 in 2019-20.

Can children have a Junior and adult Isa?

Once children turn 16, a loophole in Isa law means that they are eligible for two Isa allowances - both the Junior Isa allowance and the adult Isa allowance.

So, in the 2019-20 tax year, they could deposit a combined total of £24,368 into their respective Isas.

They'll be able to do this until the age of 18, when any Junior Isas will be switched to adult Isas, and therefore only the adult Isa rules will apply.

Find out more in our : Isa rules and allowances

How do I reclaim tax on children's savings?

Tax used to be deducted from savings accounts automatically, meaning that parents had to complete form R85 when they opened an account in a child's name, to make sure they didn't pay tax unnecessarily. 

Since the personal savings allowance was introduced for basic and higher-rate taxpayers in April 2016, this form has become obsolete, as all savings income from bank and building society accounts is now paid without tax deducted. 

However, if you think your child paid too much tax under the old system, you can reclaim it for them by completing form R40 and sending it to HM Revenue and Customs (HMRC). It takes around six weeks to get a refund.

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