Parents shrewdly putting aside money for their children in the future are in danger of seeing the value of their cash fall due to inflation.
Although encouragingly three in four parents are saving or investing money for their children, the overwhelming majority – 83 per cent – are doing so exclusively in cash, according to new research by Natwest.
With savings rates at record lows and inflation rising to 2.5 per cent last month, there is currently not one adult savings rate that will protect cash from being gradually eroded over time.
You can currently make a maximum of 1.66 per cent in a standard savings account, and that involves tying your money up for five years.
Peter Flavel, chief executive of Coutts Bank and NatWest’s wealth businesses said: ‘It’s encouraging to see how many people are saving and investing for their children.
‘But with so much of these savings being cash, the concern is that the customer isn’t aware that the impact of inflation means the purchasing power of these “safe” cash balances actually goes backwards over the longer term.’
The NatWest data also revealed that nearly one in five parents saving for their child are doing so by putting away cash in their bank, while 15 per cent are using NS&I Premium or Children’s bonds.
For those stashing the cash in their own bank the outlook for the money is bleak given rising inflation.
The average easy-access account pays just 0.17 per cent interest, according to Moneyfacts, and most of biggest banks are paying between 0.01 per cent and 0.06 per cent interest across their range of easy-access accounts.
Based on the current average easy access rate, were you to save £250 every month (£3,000 a year) for your child for 16 years, you could expect to end up with a sum of £48,655.27 – only £655.27 earned in interest.
If inflation were to rise by an average of 2.5 per cent over the next 16 years the actual value of this, even with the interest added, will fall by one third, meaning in 16 years your savings will be worth the equivalent of £32,449 in terms of purchasing power.
NS&I children’s bonds are no longer on sale, having been withdrawn in 2017, but for those buying NS&I Premium Bonds, they at least are in with a slim chance of winning cash prizes ranging from £25 to £1million every month.
Anyone can buy Premium Bonds for a child under 16 and it is possible for them to hold up to £50,000 worth of bonds.
However, the current odds of any £1 Bond winning have been reduced from 24,500 to one to 34,500 to one and with over 110billion bond numbers eligible, the chances of your child winning one of the two £1million prizes, or five £100,000 prizes will be almost nil.
Junior cash Isas offer parents better returns than other savings vehicles with the added benefit of higher interest rates and the fact you will not pay any tax on the interest earned.
The average junior cash Isa is 1.67 per cent, according to Moneyfacts with the best deal on the market available through Bath Building Society currently paying 2.5 per cent interest.
Junior Isas can be opened for any child living in the UK under the age of 18 and parents can contribute up to £9,000 each tax year.
Rachel Springall, personal finance expert at Moneyfacts, said: ‘Junior Isas pay much higher interest rates than a bank account, and since the start of this tax year, savers can save up to £9,000, up from £4,368 previously.
‘The perk of a Junior Isa is that the balance is designed to go to the child solely, and whilst they can manage the account from the age of 16, they will not be able to access the funds until they turn 18.
‘With this in mind, the account is designed to prevent parents dipping into the savings fund for other reasons.’
Despite the higher interest and tax-free advantages, you’re likely to see bigger gains for your child over the long run, were your money invested via a stocks and shares Junior Isa.
Similar to the junior cash Isa, any money invested will not be subject to tax on any capital growth or dividends received.
Your child can have one or both types of the Junior Isa as long as the combined pot keeps within the £9,000 tax year limit.
Flavel said: ‘We think that at least half, maybe even two thirds of Isa balances ought to have been placed in competitively priced stock and shares Isas.
‘But the continued preference for cash suggests that Isas aren’t really helping the UK’s medium-term savings pool in the way they best could.’
As for the one in four parents who aren’t putting money aside for their children, the main reason, according to Natwest, is because they cannot afford to.
But, nearly one in 10 said they simply don’t know where to turn to for advice, and a similar number simply don’t know how to do so.
For a quarter of Britons, worthwhile returns would convince them to start saving or investing for their child but for roughly one in seven, more advice on the subject would help them do so.
Should you invest or save for your child’s future?
Although the Junior cash Isa offers more security to parents who may be uneasy with the concept of investing, in the long-term, a stocks and shares Junior Isa should outperform its cash alternative.
If you were to save £250 a month (£3,000 a year), for 16 years into the average junior cash Isa account paying 1.67 per cent, you will end up with £54,981 – just shy of a £7,000 return for your efforts.
But in terms of purchasing power, were inflation to remain at 2.5 per cent, you would actually end up worse off with your £54,981 after 16 years being worth the equivalent of £36,668 in terms of purchasing power.
Tom Selby, senior analyst at AJ Bell, says: ‘For Junior Isas where the investment time horizon is often decades, taking at least some investment risk will be the better option.
‘Through the power of compounding – described as the ‘eighth wonder of the world’ by Albert Einstein – patient investors can build wealth over the years.’
But your decision will also depend on how soon you will be giving the money to your child.
David Gibb, chartered financial planner at Quilter, says: ‘If you were to start saving for a child as soon as they are born then it gives you an 18-year investment horizon, which should be more than enough time to ride out any volatility and ultimately beat any returns from cash savings.
‘If a child is close to 18 and is likely to take the money out as soon as they reach their 18th birthday then saving it in a cash junior Isa may be a better option.
‘However, if you are looking to put money away for a child just after they were born then you are much more likely to get higher returns from a Stocks and shares junior Isa.’
How easy it to set up a Junior Isa?
Not so long ago, investing typically required a stockbroker or financial adviser and the willingness to hand over a big chunk of commission.
Now armed with a computer – or just a smartphone – investors can use a DIY investing platform or online broker and the wealth of research at their fingertips to hopefully build their fortune.
‘It has never been easier to open a Junior Isa and the application process can usually be done in minutes online,’ says Selby.
‘To open a Junior Isa you must be the parent or legal guardian of the child in question.
Parents may have views about what they want their child to spend the money on. But once the child turns 18, the funds from the Junior Isa becomes their money and they can do what they like with it.
‘However, once opened anyone – including grandparents, uncles and friends – is allowed to pay into a Junior Isa.’
DIY investing platforms act as a place to buy, sell and hold all your investments and to have a tax-efficient wrapper around them if you choose to invest in an Isa.
When weighing up the right one for you, it’s important to look at the service that it offers including whether it includes Junior Isas, along with administration charges and dealing fees, plus any other extra costs.
We have written an extensive guide on the best and cheapest DIY investing platforms, which might help you in deciding.
What should you invest in?
Once you have chosen which platform or provider to invest through, the next daunting task is to choose what to invest in.
Many of the investing platforms allow you to invest in a large range of funds, investment trusts and if you’re feeling particularly daring, individual stocks and shares – although the range of choice varies between providers.
‘In order to invest in a fund or trust, you will need to pay a manager to run your money,’ says Selby.
TOP DIY INVESTING PLATFORMS
‘It is also possible to invest directly in stocks and shares using a Junior Isa, but while this will remove fund manager costs you will still have to pay platform costs, including the cost of buying and selling shares.
‘This can also be quite time consuming, with investors ideally researching and assessing companies from around the globe in order to build a diversified portfolio that meets their needs and appetite for risk.
‘This diversification is absolutely key as saving too much in one area of the world or type of asset risks leaving you more exposed to sudden shocks.’
If you would prefer to leave your money in the hands of fund managers then this certainly has its benefits as well as removing some of the stress and research involved when picking individual stocks.
But there still remains a question of how many funds or investment trusts it is sensible to invest in?
‘There is no ‘right’ number of funds or trusts to hold as this will depend on the nature of the funds and trusts in question,’ says Selby.
‘Some multi-asset funds, for example, will come with built-in diversification across different regions and sectors, meaning it could be appropriate to have your money invested in a handful – or even one.
‘Others will be targeted at specific parts of the world or the economy, in which case having a few more might be necessary.’
For those who would rather not have to make any decisions themselves, there are even options that mean you won’t have to make a choice.
Online investment management services like Nutmeg and Wealthify will invest on your behalf in accordance with your personal risk profile.
You can control a Junior Isa all from an app on your phone and change your risk profile as and when your circumstances require.
Why wouldn’t you set up a Junior Isa?
One thing that parents should be aware of before thinking about investing in a Junior Isa is that once the child turns 18, it becomes their money to do what they like with.
‘It is crucial for a parent to feel confident that the money will be spent sensibly particularly if building up significant sums,’ says Gibb.
‘For those parents who are less sure their child will use their new found funds wisely they might want to consider setting up a trust.
‘A trust will enable trustees – the people that manage the trust – to maintain a degree of control over how the money is spent.’
