Children and Tax
Saving for your child's future is very important, and something that both parents and the government are working together to achieve, so it is important that you know the tax implications when it comes to saving for children.
Children have a personal tax allowance which means that they will not pay tax on the first £5,225 of income and the first £9,200 of capital gains in the current tax year (2007/08).
However, if you as the parent decide to open a savings account or invest money on behalf of your child, only the first £100 of interest earned or income received each year is considered as belonging to the child, making it taxable against your earnings.
With a Child Trust Fund, this rule doesn't apply as the accounts can be topped up to £1,200 per year tax-free.
Saving in a CTFThe Child Trust Fund (CTF) was introduced by the Government in April 2005 as a long-term savings account for children and under this initiative children born on - or after - the 1 September 2002 were eligible to receive £250 for their parents to invest on their behalf, or £500 for lower income families.
A CTF can be invested in one of three ways, depending on how much risk the parents wish to take - stakeholder, non-stakeholder shares and non-stakeholder savings. Once the voucher has been invested, parents and relatives can top up the account to a maximum of £1,200 per year.
The rules on when you can top up a CTF are fairly relaxed. While you can set up a regular monthly or annual standing order to pay into the account, ad hoc contributions are also possible, with minimum single contributions ranging from just £1 to £500, depending on the account.
The main disadvantage to topping up your child's CTF is that when they reach 18 years old they are automatically entitled to the money and you will have no say over how they spend the money.
Opting for an ISAISAs, introduced back in 1999 to replace PEPs, have been very successful savings vehicles with 17 million Britons investing more than £220 billion in their accounts. You can use an ISA to save cash, or to invest in stocks and shares, depending on how much of a risk you want to take.
Under the current ISA rules, your can opt for a Maxi or Mini ISA. A Maxi ISA can contain cash, investment-based life insurance or stocks and shares, all of which must be with the same ISA manager, and can hold up to £7, 000. A Mini ISA can contain either stocks and shares, a life insurance policy or other medium to long term investments or cash with saving limits of £4,000 and £3,000 respectively.
However, the structure for ISA saving has been somewhat simplified by the new rules that are due to come into force this April. There will no longer be a mini/maxi distinction between ISAs, instead the option will simply be a cash ISA or stocks and shares ISA. There is also the opportunity to save much more in as the annual investment limit will rise to £7,200 and up to £3,600 of this can be saved in a cash ISA with the option of investing the remainder in stocks and shares.
The tax benefits of CTFs and ISAs are very similar, in that there are no tax implications for the person who donates the money. But, for many parents using ISAs to build a nest egg for their children, the main attraction is that the money is held in the parent's name, preventing any irresponsible spending on the child's part.
It is very important when choosing which form of ISA to put your money in that you know what to expect. A cash ISA allows you to put away your money to accrue interest just like it would in an ordinary bank or building society account, but with the advantage if being tax-free. On the other hand, a shares ISA invests in the stock market, so although any gains the money makes will not be taxed, the capital will be exposed to the ups and downs associated with stocks.
For most parents saving for their children, the money being put aside will be left alone for quite a few years and where cash ISAs can be a useful place to put money in order to gain interest, avoid tax and have easy access at relatively short notice, a shares ISA, like all stock market investments, is considered a long term investment.