Despite independent schools saving the taxpayer nearly £4.5 billion a year by educating students outside the state system, the new Labour Government seems intent not only on introducing VAT on private school fees, but also in the middle of the school year, starting from January 2025. 

According to the Independent Schools Council (ISC), the spectre of VAT is thought largely to be responsible for the recent drop in new joiners in this new academic year just begun, numbering nearly 3,000 or 2.7%, the steepest fall since 2011. Doubtless, the 8% year-on-year surge in the cost of fees will also have contributed to falling numbers. But with the cost of educating one pupil in the state system estimated at £7,460 according to Government data, then this exodus is already costing the taxpayer £22 million – the equivalent of paying for 400 extra teachers. 

While the stated objective of the policy is to raise extra revenue of £1.6 billion to fund an extra 6,500 teachers in the state system, a recent report by the free-market think tank, The Adam Smith Institute, suggested the policy could cost the taxpayer as much as £1.6 billion with around a quarter of children being withdrawn from the private sector. And this is without the knock-on effects on the schools themselves, their employees and supply-chains. So far, nine private schools have announced closure since the summer.
 
Education has been deemed a ’charitable endeavour’ since the time of Elizabeth I and, more recently, in the Charities Act 2011. Until now, charitable trusts – which most independent schools are - have been exempt from VAT and business rates. The Government’s policy, if implemented in full, could mean an effective 20% increase in fees . Many schools have already warned parents what to expect come January. Since they are non profit-making, there is a limit as to what they can absorb on top of all the inflationary pressures they have already passed on. 

With around 2,500 private schools educating nearly 7% of the school population in the UK and boarding fees now standing at a record average of £42,459 p.a. (the day schools average is £18,000 p.a.) according to the ISC Census Report 2024, the effects of this measure are going to be far-reaching. 
 

What steps can parents take? 

The first and most obvious step is to put concerted pressure on schools to radically restructure their overall offering and cut costs. With staff costs comprising the major overhead, this inevitably means fewer teachers but also a more robust resistance to the competitive urge to install the latest in under-floor heated floodlit cricket nets, or whatever their nearest rival has. Parents need to prioritise what they feel a good education fundamentally comprises, up to a point, facilities do not in themselves ensure this.  

Like any other VAT-registered business, a school will able to recover the VAT they pay on their ‘inputs’, i.e. the goods and services they buy, so should be able to reduce some costs in this way. Inevitably, some schools will be unable to resist the lure of attracting yet more foreign students, which will undermine the attraction of their advertised provision of an ‘English’ education. Many have already reached this threshold already, estimated by some at 7% of a school’s total pupil numbers.

Plan ahead

While a few forward-thinking parents managed to avoid the anti-forestalling date set at 29th July this year, pre-payment of school fees will not now avoid VAT, if imposed. Notwithstanding this, many schools offer discounts or pre-payment plans, discounting the fee at a percentage rate related to how much they can earn by retaining these monies on deposit. So not, at the moment, a huge amount but one which certainly mounts up, especially if considered for several children. 

Other schools offer credit facilities whereby fees can be spread over the year or perhaps over a more extended period than just the exact time your child is attending. 

The key is to ask a Bursar what is available – and this should start with enquiries as to what bursaries or scholarships are available.

Gifting

Family members, grandparents or godparents may want to help towards school fees through gifting. This could be incorporated into their overall inheritance tax (IHT) planning.

Current rules allow an individual to gift up to £3,000 per tax year free from inheritance tax. If an individual (e.g. a grandparent) has not used their full allowance in a tax year, they can carry over the unused amount to the next tax year.

They could also make 'gifts out of surplus income' which, if implemented correctly, are not subject to inheritance tax. These payments have to be regular, made from genuinely excess income and must not affect the donor’s standard of living. Good record-keeping is essential to demonstrate this. Using income generated by a portfolio which would otherwise be reinvested is therefore an easy way of proving these criteria.

Savings 

If your spending is going to increase, you need to be confident your savings are working as hard as possible. With interest rates likely to decrease, a ‘ladder’ of suitable term deposits may be appropriate. Shop around for the best rates. As ever, your savings need to stay ahead of inflation so that their purchasing power doesn’t fall behind.

Fixed-rate savings accounts are likely to offer higher rates than easy-access accounts but beware loss of interest penalties for early or unscheduled withdrawals. 

Sheltering your cash in a Cash ISA is a good way to avoid the interest being taxed. Maximising the annual ISA allowance of £20,000 between spouses is an easy way of enhancing this.

Investing

The only advantage of school fees is that you know exactly when the liability is going to fall and therefore exactly when to ready resources for those dread payment dates in September, January and April.

For those with only a short-term time horizon, a portfolio of Gilts is a tax-efficient and lower-risk option. You can match maturities to the various due dates and benefit from capital returns free of CGT. 

If you can commit some money for longer periods (at least three to five years, but preferably longer), then you are more likely to see better returns by investing in other assets such as equities. The key here is to match the particular weightings of asset classes to the risk profile you set for this school fees portfolio.

It is worth noting that this is a higher-risk approach and nothing is ever guaranteed i.e. you could get back less than you invest.

Again, utilising your ISA allowances to wrap around these investments ensures there is no UK income or capital gains tax to pay; therefore, the growth of these ISA assets is unconstrained. Under the new ‘flexible ISA’ rules, you can now withdraw from and reinstate ISAs, provided you do so within the same tax year

Trusts

Another way grandparents may consider supporting their grandchildren’s education is by gifting money into a trust. The simplest and most cost-effective is a Bare Trust, which ensures the money can only be used to benefit the child as the named beneficiary. The downside is that this beneficiary becomes ‘fully entitled’ to the assets at age 18, sometimes not the best age for a child to discover what might have grown into a considerable windfall. 

Up to £325,000, the current Nil-Rate band for IHT, can be settled into a trust without incurring a lifetime charge to IHT.

The advantage of a Bare Trust is that the money is treated as if it belongs to the child for tax purposes. (If a parent also pays into the trust and the income on their gift(s) exceeds £100, then income tax on their gift(s) is assessed on the parent).

The rules differ from a Junior ISA (JISA) into which £9,000 per annum can be contributed each year (from whatever source, so a good one to alert godparents or generous relations to). While a trustee parent can withdraw money from a bare trust at any time for the benefit of a child beneficiary, money in a JISA is locked up until the beneficiary turns 18. This means JISA funds can come in handy for gap-years and university fees. 

Like ISAs, funds within a JISA are sheltered from both income and capital gains tax, so investment growth is potentially greater than within a Bare Trust.

As ever, trusts are a complex area so do seek specialist advice. Tax rules can change over time and depend on your circumstances and the child's. 

The key is to set a strategy as early as possible in your children’s lives and stick to it. If you would like any help or advice with that looming cloud of school fees, then Church House is well-positioned to provide help with some cashflow forecasting and investment planning to increase the chances of success in hitting your objectives for school fees and wider family financial plans. 
 

Sources:

ISC Research

ISC Census and Annual Report 2024

BBC News

Any views or opinions expressed in this piece are those of the author and not necessarily representative of Church House.

Important Information

The contents of this article are for information purposes only and do not constitute advice or a personal recommendation. Investors are advised to seek professional advice before entering into any investment arrangements. Please note, we are not tax experts, and you should seek professional advice concerning your personal tax affairs from qualified advisers, such as tax accountants.

Please also note that the value of investments and the income you get from them may fall as well as rise, and there is no certainty that you will get back the amount of your original investment. You should also be aware that past performance may not be a reliable guide to future performance