We all want the best possible future for our children - giving them a better start, financially, than perhaps we had ourselves growing up.
Yet how do you decide on the best way to save or invest for your son or daughter?
In this article, we outline the different options when it comes to investing for children. We explain how cash savings (including NS&I Premium Bonds) are suitable in certain situations, whilst investing through certain tax-efficient “vehicles” (e.g. a Junior ISA or pension) is typically better in others.
Cash savings for a child
The simplest way to save for a child, of course, is simply to open a regular savings account and put aside cash - perhaps a small amount each month. Here, you have the advantage of keeping control over the account. However, interest rates are poor in 2021. Some banks now offer 3% or more, but come with stringent conditions (e.g. a £50 maximum monthly deposit and you must also have a current account with them). Most other options, however, rarely beat 1% on their variable rates.
The Bank of England (BoE) has a target of 2% on inflation, so if this target is met over your child’s first 18 years then these accounts would lose 1% each year (in real terms). Where cash has a clear advantage over investing, however, is its stability. Investments can go up and down with the stock market, whilst cash does not. If you are looking to give wealth to a child soon, therefore, it may be best to hold it in (or move it into) cash. A popular option here is the Junior ISA, which lets you save up to £9,000 each tax year on your child’s behalf. The rates on these accounts are better than those on regular accounts and adult ISAs. Another option is buying NS&I Premium Bonds for your child. This gives them the chance to win up to £1m in a prize draw, with the chance of winning highly influenced by how many bonds you buy (you can purchase up to £50,000). However, bear in mind that the odds of winning are still low, so you need to weigh this against the guaranteed interest rate you might get on cash in a Junior ISA. Another factor to consider is that Premium Bonds can be signed over to a child from age 16, whilst for a Junior ISA your child takes control of it from age 18.
Investing for a child
Saving cash for your son or daughter is not the only option. Investing can open up opportunities to grow wealth at a faster rate (albeit with higher risk). Consider, for instance, that the S&P 500 has delivered an average return of nearly 10% since the 1920s.
However, multiple stock market crashes have also occurred over this time. This is why investing for a child is usually better for longer-term financial goals, such as building wealth from a child’s birth until they turn age 18.
If one or more crashes occur during this timeframe, there should be time for the investments to recover and even outgrow their previous highs.
A popular option to consider here is a Junior Stocks & Shares ISA. Here, you can invest up to £9,000 per tax year on your child’s behalf (up to their 18th birthday) and generate dividends and capital gains tax-free.
The returns you make will depend largely on the shares, funds and other investments chosen, as well as their cost and performance. For instance, providers may charge a platform fee (e.g. 0.15% per year) and an ongoing fund charge (e.g. 0.50%). You might also be charged when you buy and sell investments. A financial adviser can help you sift through the many ISA options to find one that suits your goals, offers a good range of investments and at a good cost. Your high street bank may not be the cheapest - or best - on the market. As a UK top 10 adviser, we are well placed to help point you in the right direction.
The above approaches can be great for short-medium term financial goals for your child, such as saving or investing for a future wedding, house deposit or university living costs. Yet if you are thinking of helping your child over the longer term, then setting up a pension for them may be a good option. A Junior SIPP is a popular option here (self-invested personal pension).
This lets you save up to £3,600 each tax year on your child’s behalf, and also claim 20% tax relief. For instance, if you put £800 in the pension then the government will add another £200. The pension passes to your child at age 18, but they cannot access it until at least age 55 (soon to rise to 57). This might sound restrictive, but it unlocks amazing growth potential for your child through the power of compound interest. In short, the more time your child’s pension investments have to grow, the more growth potential there is. For example, suppose you invest £3,600 in your child’s pension at their birth (£2,880 from you, £720 from the government via tax relief). At their 65th birthday, this amount could grow to nearly £117,000 after fess (assuming 5.5% growth per year, and not accounting for inflation).
Final thoughts on child savings & investments
Saving and investing for a child are noble aims. Yet parents should also recognise the value of bestowing financial wisdom to a son or daughter, so they are more able to make good money choices in their adult years. This will look different for every family. Some parents will want to give their child an increasing stake in their own finances - perhaps via an allowance or through encouraging a bit of part-time work alongside their studies. The tools mentioned in this article should also be considered in this light. For instance, a Junior ISA may suddenly bestow a child with a large amount of money (all of a sudden) on their 18th birthday. Building the character and knowledge to spend this wisely will help them learn to be good savers and investors, too.
Note: Investments and the income from them can go down as well as up and is not guaranteed at any time. You may not get back the full amount you invested. Information on past performance is not a reliable indicator for future performance.