Investing for children

Money invested for a child has an unusually long horizon, which makes it one of the clearest cases for investing rather than saving — and raises a specific question about control.

The arithmetic

Why the horizon matters.

Money invested at birth has around eighteen years before adulthood and considerably longer if left for retirement.

Which is enough time for compounding to dominate and enough time to tolerate volatility.

Modest regular contributions over such a period produce sums that surprise people, which is the entire argument for starting early rather than waiting until larger amounts are available.

The account options

Which vary by country.

Child-specific tax-advantaged accounts, which exist in several jurisdictions with contribution limits and, critically, access restrictions.

Ordinary accounts held in trust or designated for a child, with varying tax and legal treatment.

Child pensions, available in some jurisdictions, which receive tax relief and are inaccessible for decades — producing an extremely long horizon and correspondingly powerful compounding.

Accounts in your own name earmarked for the child, which retains control and means the money is yours for tax and inheritance purposes.

Each has different tax treatment, contribution limits and access rules.

The access question

The decision most people do not make deliberately.

Child-specific accounts in several jurisdictions transfer to the child at eighteen with no restrictions, meaning a substantial sum becomes available at that age to be used however the young adult chooses.

Which may be exactly what was intended, or may not.

Alternatives that retain control: holding the money in your own name, which has tax and inheritance consequences; using a trust, which involves cost and complexity; or staging the transfer.

The right answer depends on the amount, the family and what the money is for, and it should be a decision rather than a default.

What the money is for

Which determines the structure.

Education costs at eighteen or later, which suggests an accessible account and a reducing risk profile approaching the date.

A house deposit in the twenties, which suggests a longer horizon and continued growth exposure.

A start in adult life generally.

Or long-term retirement provision, which suggests a pension where available and where the inaccessibility is a feature.

Deciding this at the outset determines both the account type and the allocation.

The allocation

Which follows from the horizon.

A very long horizon supports a high equity allocation, since there is time to recover from declines.

Approaching a known date — university, for instance — the allocation should reduce, since a fall shortly before the money is needed cannot be recovered.

Which is the same glide path logic that applies to retirement, on a different timescale.

A global equity index fund for the early years, reducing risk in the final years before the money is needed, is a defensible default.

Who contributes

A practical point.

Grandparents and other relatives frequently want to contribute and are frequently better placed to do so.

Contributions may have inheritance tax implications in some jurisdictions, with exemptions for regular gifts from income and for small gifts.

Which means grandparental contributions can serve two purposes simultaneously and are worth structuring with advice where the amounts are substantial.

Redirecting money that would otherwise be spent on presents is a common and effective approach.

Tax treatment

Which varies and matters.

Income from money given by parents is treated as the parents' income above a threshold in some jurisdictions, which is a specific anti-avoidance rule that catches people.

Money from grandparents and others is generally treated differently.

Tax-advantaged child accounts avoid this entirely, which is one of their main benefits.

And the child's own allowances may be available depending on the structure.

Checking the local rules before choosing an account is worthwhile.

Teaching alongside

Which is arguably worth more than the money.

Involving an older child in the account — showing the contributions, the growth and the declines — teaches compounding and volatility in a way no explanation does.

Explaining that the value falls sometimes, before it does, prevents the first decline being a shock.

And discussing what the money is for makes the eventual access less likely to be squandered.

Research on the development of financial habits suggests they form early, which makes this an opportunity rather than an afterthought.

The order of priorities

Worth stating.

Your own emergency fund, high-cost debt and pension contributions generally come before investing for children.

Which sounds ungenerous and is not: a parent who reaches retirement without adequate provision becomes a financial responsibility for the same children.

Securing your own position is the first contribution to theirs.

And modest regular contributions from an early age, made sustainably, outperform larger contributions made at the expense of your own security.

General information only, not investment or tax advice. Account types and tax treatment vary enormously by country — consult a regulated financial adviser.