Savings accounts for children
What's the best way to save for your child? From standard savings accounts to ISAs, stocks and shares and peer-to-peer, we review the options.
- Many children's savings accounts offer poor rates, so shop around
- Stocks and shares and peer-to-peer options may offer better long-term returns, but also carry more risk
- Consider income tax and inheritance tax implications if saving for a child in an adult account
- Children shouldn't pay tax on savings interest unless their annual income exceeds the personal allowance
- Junior ISAs (which replaced Child Trust Funds) offer further tax-free benefits, but also carry restrictions
We all want to give our children a head start, whether that's by saving a small amount to launch them into adulthood or by investing enough money to help them through university.
But there are many different ways to save for kids and it's hard to know which is right.
Should parents save into a Junior ISA or an easy-access savings account?
Should money be saved into stocks and shares, or could they lose it all?
Is it best to save in the child's name or in their own account?
Don't panic. Here's a simple rundown of the main options so that you can find the right way to save for your child.
Do kids have to pay savings tax?
An important point before we start; it's widely believed that children don't need to pay tax on their savings, but this isn't actually correct.
In fact, children only have the same tax-free personal allowance as adults.†
However, most youngsters don't earn enough to exceed that allowance, meaning that they don't have to pay any tax on their savings.
Standard savings accounts for children
Most banks offer a children's savings account.
This is usually an easy-access account where you can pay money in or withdraw it as you like, but they may also offer a children's regular savings account, where you pay in a fixed monthly amount.
Be aware that children's accounts don't always pay particularly high rates, although they do allow children to go into the branch and add money to their account in person.
Watching the balance rise in their little account book can be an excellent way to begin a savings habit.
Frustratingly, many people believe that Individual Savings Accounts (ISAs) are complex financial products that require a tax return and declarations to HMRC.
One of the main benefits of saving for children is the valuable financial lessons they can learn
This simply isn't true.
A Cash Junior ISA is just like a standard savings account, except that the taxman can't take a share of the interest so long as the money is in the account.
That means that even when the youngster turns 18 and perhaps starts earning more than their tax-free allowance, the money is still protected from tax until it's withdrawn from the account.
If your child is one of the fortunate few who earns more than the annual allowance and so has to pay tax on their savings, then maximising the benefits available from a Junior ISA should certainly be considered.
Note that annual limits apply to the amount that can be invested into ISAs.
Of course, there is one major difference between a Junior ISA and an adult account - with the junior option, the money can't be withdrawn until the child reaches 18.
That means it won't be the best account to consider if you're saving for a childhood cost, such as a school trip or cello lessons.
Remember also that when your child passes 18 they'll have control of the funds and will be able to spend them on whatever they choose... however inappropriate you may believe their financial decision is!
Stocks and Shares Junior ISAs and other investments
You don't have to be some financial whizz kid to invest in stocks and shares; they can be very simple products. You can open an account with a firm that will invest the money on your child's behalf.
Remember that the stock market is volatile and that you may not get back the full amount you invested - if you're in any doubt, please speak to an independent financial adviser.
However, over the long term these sort of investments tend to outperform cash options. You need to decide whether you're happy with the risk.
Remember that one of the key points to look out for on a stocks and shares investment will be the management charges levied.
Over the long term these can make an enormous difference to your returns so, for example, if two investment options are otherwise directly comparable make sure you go for the one with the lowest fees.
Did you know...?
- You can split your child's Junior ISA allowance between cash and stocks and shares
Straightforward index tracker funds could be worth considering as they tend to have low management charges and often outperform more complex products.
It's up to you to choose the level of risk, and if you prefer a hands-on approach you can choose a specific area you're interested in investing in.
As we've stressed, there are no guarantees when it comes to investing and the value of the account could rise or fall.
You don't have to put an investment for a child within an ISA wrapper, but if you like, you can split your child's Junior ISA allowance between cash and stocks and shares.
It may be worth thinking about investing in stocks and shares while your child is young, but then gradually transferring the funds into cash once they're in their teens.
That way you don't have to rely on the state of the stock market on the day the money is withdrawn.
Child Trust Funds
If your child was born between 1 September, 2002, and 2 January, 2011, they were eligible for a Child Trust Fund, which can't be held alongside a Junior ISA.
Did you know...?
- Peer-to-peer saving rates may be more attractive than traditional accounts, but neither your capital nor your return will be guaranteed
The Child Trust Fund scheme has ended now, but the accounts will continue until the child reaches 18.
From April 2015, anyone with a Child Trust Fund has been able to transfer it to a Junior ISA.
The rates on many Child Trust Funds are now uncompetitive, so it's worth looking at the best Junior ISA options and thinking about switching.
Putting a child's savings into an adult account
Many parents have grave reservations about saving into a Junior ISA since the child could then access the money the day they turn 18 (and how responsible were you at 18?).
Once the child is an adult they can spend the money however they want, and that's off-putting for parents who want the funds earmarked for university or as a deposit on a first home.
Putting the money for your child into your own savings account is another option, but remember that savings interest will count towards your annual personal allowance, not that of your child.
You might also need to take into account possible inheritance tax considerations.
If you don't use all of your annual ISA allowance, you might want to think about utilising this for the benefit of your child, whether it's in a Cash ISA, a Stocks and Shares ISA, or - from April 2016 - an Innovative Finance ISA for peer-to-peer savings and investments.
Peer-to-peer saving for children
If you've chosen to use an adult-saving option to put money away for your child, it's worth thinking about peer-to-peer lending.
In some ways this could be thought of as a half-way house between saving and investment.
Peer-to-peer saving rates may be more attractive than traditional accounts, but neither your capital nor your return will be guaranteed.
If this option appeals to you, it's likely that the longer the term you're willing to commit your money for, the higher the interest rate will be.
Given that, you may want to consider selecting a peer-to-peer account that will mature when your child reaches 18, or another significant landmark date.
Shop around for children's savings accounts
Whether you're saving for a child or as an adult, the golden rule is to shop around to find the best deal. Interest rates can vary enormously, even between the same type of saving account.
What's more, you shouldn't forget about your child's account after you've set up the right one.
Interest rates change, you may have signed up for an introductory bonus rate, new products can come onto the market… stay on top of things and compare interest rates regularly.
Teach children to save
One of the main benefits of saving for children is the valuable financial lessons they can learn; deferring pleasure, saving up, earning money.
But they won't see that benefit if you're simply fixated on saving for the future.
However you choose to save for your family, why not consider also opening an everyday child's savings account just for them?
They can pay their pocket money in, take responsibility for their account book and enjoy watching savings build up.
If you let them use this account to occasionally buy treats they want and have saved for, then you'll be directly showing them the benefits of saving money.
That's probably one of the most valuable financial lessons any child can learn.