But the tax wrapper is not always the best vehicle, as the funds are locked away until the child turns 18
With the total cost of a university degree topping £50,000 according to some estimates, and successive generations finding it harder to get a foot on the property ladder, many parents looking for a tax-efficient way to save for their children’s future are opting for a Junior Isa. The deadline for this tax year’s contributions, like the adult equivalent, is just around the corner (5 April). But while the wrapper will suit some families, many should consider alternative options.
Like normal Isas, Junior Isas shelter interest earned, capital growth and dividends from tax, and the annual contribution limit is currently £3,720 (rising to £3,840 in the next financial year). But Jason Hollands of Bestinvest thinks that “the tax benefits are somewhat incidental, if not illusory”, as most children are unlikely to exceed their ordinary annual capital gains and personal tax allowances, making the Isa redundant.
The funds will also be tied up until your child is 18 (when they will gain immediate access). This creates another potential problem, in that your child will then have full control over how they spend the carefully accumulated nest egg. So if you aren’t already using all of your own Isa allowance, you might question the point in opening up a separate savings wrapper for your child.
For parents already maximising their Isa contributions, however, or grandparents looking to plan the passing on of their estate, Junior Isas can be a good option, says Jason Witcombe of Evolve Financial Planners. And calculations by Fidelity demonstrate the huge potential for capital growth with regular contributions – saving just £125 each month (less than half the annual allowance) for a child born last February would see the pot rise to £35,822 by the time they reached 18, assuming 5 per cent annual growth, service fees of 0.35 per cent, and an annual management charge of 0.75 per cent.
But the only realistic way to achieve such returns, says Danny Cox of Hargreaves Lansdown, is to put investments in stocks and shares, rather than cash. “The usual rule of thumb is that, if you won’t need access to the money within 5 years, it’s worth taking on more risk through equities to see capital growth over a longer time frame.” If your child is nearing 18 (with tuition fees looming), Hollands says that it’s probably safer to use one of the cash options, some of which pay fairly attractive headline rates (see table).
Parents with children born between September 2002 and November 2011, however, currently face the parallel (and moribund) child trust fund (CTF) scheme, unable to start a Junior Isa on behalf of their child. The CTF allowance is the same, with the contribution deadline based on the child’s birthday rather than the tax year, but the choice of investment options is far narrower, and the fees are often higher, says Cox. The government announced last year that CTF holders will be able to switch to Junior Isas from April 2015, so Cox says that people in this situation should check that they are on the highest rate to take them up to the switching date.
“But ongoing costs like school fees cannot be paid out of Junior Isas, which are locked until the child turns 18,” says Witcombe. Cox highlights premium bonds, conventional savings accounts, and trusts as alternative options for these costs.
Bare trusts, the cheapest and most common way of paying for school fees (according to the Good Schools Guide) allow multiple settlors – parents, godparents, grandparents – to pay in, with the trustees able to withdraw money for fees. And after seven years, any money in the trust becomes exempt from inheritance tax. But income over £100 in the child’s name is taxed at the rate of the parent, which could eat into returns.