- Financial planning
- 3 minute read
Giving children a “good start in life” by making investments into their future can make all the difference in today’s world.
Higher education, getting married and buying a home have become significantly more expensive for young people than they once were. There are several ways to get started with investing for children that can also help you benefit from tax incentives that could reduce the amount of tax paid, both now and in the future. Don’t forget that tax rules can change over time so it is best to seek professional advice before making financial decisions.
Ownership of the investments
There are a number of options available when it comes to ownership of investments for a child. Children get many of the same tax-free allowances as adults, so it’s a good idea to consider specialist child savings accounts.
Some people prefer to keep investments for children in their name, that way, if a future need arises in which you require access to the funds, it is still available to you as it has not yet been transferred to the child.
If you retain personal ownership of the investment, it will be your tax rates that apply as opposed to the child’s. If the investment remains in your estate upon death, more taxes may be payable, so be aware of this.
Bare trusts allow you to hold an investment on behalf of a child until they are aged 18 (16 in Scotland), when they’ll gain full access to the assets. Bare trusts are popular for grandparents who would like to invest for their grandchild because the investments and/or cash are taxed on the child who is the beneficiary. This is only the case if you are not the parent of the child. If you are and if it produces more than £100 of income it will be treated as yours for tax purposes.
Grandparents can contribute as much as they would like as there is no limit for how much can be invested each year into this type of account. This can be a beneficial way of reducing an inheritance bill if a grandparent would like to make gifts to a child.
A discretionary trust can have a number of potential beneficiaries, usually chosen by the creator of the trust. The trustees can decide how the income of the investment is distributed. This type of trust is useful to give gifts to several people, such as grandchildren. However, it’s worth keeping in mind that the tax rules can become complex when using a discretionary trust and the investment and distribution decisions are taken by the trustees (of which you can be one).
A tax specialist will be able to explain the tax rules regarding trusts depending on your individual circumstances.
Junior ISAs (JISAs) are available for children born after 2nd January 2011 or before 1 September 2002 who do not already hold a Child Trust Fund. They are free from income tax and capital gains taxes and are not subject to the parental tax rules. They have an annual savings limit of £9,000 for 2020/21. A child can have both a Junior Stocks and Shares ISA and a Junior Cash ISA.
From the age of 16, children can have control over how their JISA is managed, but cannot withdraw from it until the age of 18.
A child SIPP is a personal pension for a child. Whilst it may seem a little early to be thinking about retirement as the parent of a child, it’s worthwhile. The sooner someone starts saving, the more they will gain from the effects of compounding. Another reason to start a child SIPP is that retirement is becoming more difficult, with the new flat-rate pensions system of 2016 which aims to reduce the cost of retirement for the government, and the continuing increase in the State Pension Age.
Child SIPPs work just like adult ones in that they are eligible for 20 per cent tax relief. £3,600 a year can be saved if the maximum contribution of £2,880 net of basic tax is paid in, regardless of the tax rate of the child or person paying into it. This can help a child to build a substantial pension pot if payments are made every year.
Deciding on an investment
When it comes to choosing the right investments for children, a long term perspective is required so this may mean picking different investments to those you would choose for yourself.
Setting goals can help determine what the best investment strategy should be. For example, you may have a goal for university education or providing funds for the young adult to draw upon as and when they may need it. The right asset choice can then be decided based on the goals and identified risk factors. There are endless options when it comes to choosing which funds to invest in across the asset categories.
A financial adviser will be able to assist and can explain the risks involved with fund selection. Regular reviews with a financial adviser are recommended to ensure the investments are performing as you would expect.
Preparation for adulthood
A key aspect of preparing children financially for their future is helping them understand how to manage their money independently. This should not be forgotten as children get older and begin to develop their own financial habits. Learning about the basics of investing can be taught at a young age and will demystify the investment process for when they’re older.
Investing for children and teaching them about saving and investing can be a very rewarding experience for parents and grandparents as it encourages the right mindset towards finance early on. A financial adviser is best placed to help you explore the options that are more suited to you and your child’s circumstances.
If you're interested in learning more, download our complete guide to investing for children.
Capital at risk. Tax benefits depend on your individual circumstances and tax rules are subject to change.