Should we be adding to our children's accounts or choosing alternative investments instead?
Believe it or not, the time has come to wish "Happy Birthday" to the Child Trust Fund, which turned two this month.
For anyone unclear on the scheme, the government gives all new babies in the UK a voucher worth £250 (£500 for children from lower income families) to save or invest in a Child Trust Fund. Parents, friends and relatives can add a further £1200 each year, the government pledges to add a further £250 when the child turns seven, and the whole scheme was set up with the intention of giving the child a good start when he or she gains access to the money at age 18.
There are three types of CTF; you can choose between a simple cash based (savings) account, a shares based account, and a stakeholder account, which has certain rules to help reduce the risk of investing in shares.
So far 2.6 million CTF vouchers have been issued and the scheme has proved popular with many parents.
On the positive side, who wouldn't approve of the government giving children money for their future? Indeed, the scheme has no doubt encouraged a lot of parents who have never invested before to carefully investigate the best options for their child as, let's face it, there's a certain amount of responsibility tied into investing for your own offspring's future.
What's more, as parents can't get their hands on the cash this is a great way to save for your child without worrying about breaking the £100 rule, (which states that any interest over this sum that is earned by a child from money given by a parent will be taxed at the parent's highest rate). Neither you, nor your child will pay tax on the income or gains received. And as the government revealed that Child Trust Funds will be able to be rolled over into cash ISAs when children turn 18, the tax free status can be maintained for far longer.
Doing some quick sums, if you were to invest the maximum £100/month for your child from birth, he or she could be looking at nearly £44,500 when the day comes to blow out 18 candles (assuming annual growth of 7% after charges). And as Child Benefit is currently paid at £18.10/week for the first child (around £78/month) investing this money would mean you'd only need to find another £22/month to reach the maximum. (Child Benefit for subsequent children is currently paid at £12.10/week or around £52/month).
Of course, on the other hand not every child is eligible for a CTF (only those born after 31 August 2002) putting parents with older and younger children in a tricky position. And with the accounts operable only by the children themselves (when they turn 18) many fear that their hard earned cash could simply be frittered away by an exuberant teenager.
However, one of my main gripes about the Child Trust Fund lies not with the scheme but the providers. Whilst stakeholder accounts are supposed to protect the child's money by capping fees at 1.5%, a lot of providers seem to take that as the figure to use. As a result, providers offering supposedly cheap tracker fund CTFs are charging a full 1.5%, when similar products are on the market with charges of less than half this amount, simply because they don't have the "Child Trust Fund" name.
For example, apply for the Loughborough BS Baby Bond (in association with The Children's Mutual) and you'll pay an annual charge of 1.5%. Invest in the fund outside of a Child Trust Fund and you'll pay annual charges of 0.9%. As we always say at the Fool, the higher your charges, the less profit you'll get to keep (hence our fondness for cheap trackers).
Indeed, if you are keen on investing for your child but have worries about aspects of the Child Trust Fund, you may decide that choosing a very cheap tracker (such as the Fidelity Moneybuilder UK Index) to invest in monthly would be a more lucrative decision. Not only could your child keep more of his or her profits, you could also have more say over what happens to their account when they turn 18.
Alternatively, you could always decide to really use the miracle of compounding and save into a pension for your child, instead.
So should you use the CTF to invest for your child's future? That's a tricky question. As a parent myself I certainly have some worries. However, I must admit that they were slightly abated upon hearing the government's latest decision to allow 18 year olds to roll their funds into cash ISAs -- and thus allow them to maintain their tax free status for longer. If you choose the investment route, as always try to pay as little in charges as possible so your child should keep more of his or her money -- but don't forget to check out the alternatives.
Whatever you decide to do with your child's child trust fund, the most important thing is to do something. But whilst the account needs to be opened with the government's money, there is no need to use this as your child's primary savings vehicle. Weigh up the pros and cons of each alternative and choose the one you're most comfortable with.