Let the taxman pay your children's school fees

chateauneufdupape

A link in another thread caught my eye and I would appreciate some advice / thoughts on how this works. The original thread is here http://forums.moneysavingexpert.com/showthread.html?t=732365

and the link to the article is here http://www.telegraph.co.uk/money/main.jhtml?xml=/money/2007/01/13/cmfees13.xml

My situation is this:

I am 41 and earn about £50k/year so I am just into the 40% tax band. I am in a "final salary" company pension scheme. I have a house worth about £450k and my mortgage is about £86k.

I have a daughter aged 12 who is in private education. I expect that she would then go on to university for a further 3 years. I have a second daughter who is 9 and I expect her to follow the same path. My second daughter would finish university when I am 54. The school fees are about £9k/year each but rise by about 6% /year.

My understanding of the article is that I take out a mortgage (interest only?)to pay the school fees. This would be for 14 years. I then pay off the mortgage interest monthly, but not the capital. I then seem to have 3 options:-

1) I also pay a monthly amount into a new pension scheme. When I reach 55 I take out 25% of the pension fund to pay off the mortgage. The remainder of the pension can be drawn out as a pension after reaching the age of 65.

2) I use my existing pension to fund the lump sum when I reach 55. I will have lower monthly cost whilst paying the fees, but I have a reduced pension.

3) I combine options 1 and 2 and set my contributions to the new pension so that the residual value balances the reduction in my work pension. Basically so that I don't affect my final pension.

Any additional contributions into a pension scheme will attract tax relief. So in my case, I would probably get some relief at 40% and some at 20%. This can then be used to help fund the pension payments or used against the mortgage payment.

Is my understanding correct?
Is there a better way of reducing the effect of the fees?
How do I put some proper numbers to this to see what my monthly outgoings would be and to help determine if it is viable?
Any other benefits / drawbacks that I should be aware of?

I look forward to your thoughts.

Murdina

the obvious point is one I made elsewhere i.e. you are of course using your pension to pay off past debts, not to be available for future income. So make sure that you are still going to have enough to live on in retirement given that you are earmarking your lump sum to go elsewhere.

Also of course just like any other investment pensions can fail to produce the returns you were expecting - so just like those with endowment shortfalls, you could end up not having enough of a lump sum to pay off the mortgage when the time comes - so build in a lot of contingency.

And make sure you calculate fully the cost of private education i.e. all the extras and the annual increases in fees.

I am very jaundiced on this issue as my experience to date of private education is that it was a total waste of money. I'm just glad I paid for it out of income and am not saddled with debts for years to come for something I wish I'd never paid for.

dunstonh

The bigger risk is that the Govt will remove the 25% tax free cash or abolish higher rate relief. Both of which rear their ugly heads periodically.

The NPSS coming in 2012 (which basically replaces stakeholder pensions) removes higher rate relief. There is no mention yet of extending that to personal pensions but it is a risk when putting your money into a tax wrapper that Govts cannot seem to stop playing around with every 8 years or so.

That said, if you are earning 50k a year and making pension contributions and have children, you could find the effective tax relief is increased upto 73% due to the payment of childrens/working tax credits. So paying the money but keeping an eye out of changes and not putting 100% reliance on it as the only means to pay could be a good idea.

Murdina

I've been thinking some more about this.
Assume you are 40 and need 70,000 to pay for school fees right away for next 7 years.
If you set 55 as your retirement age (earliest now I think?) you'll need at least £280k in the pot then to be able to draw out 70k tax free. I've checked a couple of calculators and reckon that means monthly contributions of £1,500 gross or £900 after 40% tax relief.
The interest on an interest only mortgage of 70k at say 7% for 15 years is around £408.
So it is going to cost you £1308 per month or over 15k per annum, which is more than the school fees would be (I've assumed about 10k per annum averaged over 7 years, as just over 9k seems the norm for an average secondary outside London).

So I don't think the maths add up, but maybe someone can prove otherwise.

chateauneufdupape

Thanks for the replies. I am very wary of offsetting my debts, which is why I am seeking some advice. The last thing that I wan't to do is risk my pension which I have been building up with AVC's. Regarding Murdina's points about the maths not adding up, is that there is value in the other 75% non lump sum. This would increase my pension greatly. But I am not sure that is necessarily what I want.

Could Dunstonh explain a bit more about "the effective tax relief is increased upto 73% due to the payment of childrens/working tax credits." That's gone over my head.