Saving for your child’s future can be a daunting task with so many options available. As a financial adviser, I often get asked about the best strategies to ensure a secure financial future for children. In this blog post, we’ll break down the three main options: Bank Accounts, Investments, and Investment Bonds, highlighting their benefits and drawbacks to help you make an informed decision.

Bank Accounts: Simple and Straightforward

Opening a bank account for your child is the easiest way to start saving. It’s a practical tool for teaching kids about money management and the importance of saving. However, there’s a significant tax consideration: if a minor earns more than $416 in unearned income, the tax rate is a hefty 66%. For example, a bank account with a balance of just $8,320 earning 5% interest would exceed this threshold, leading to substantial taxes.

Investments: Potential for Higher Returns

Investing in shares, mutual funds, or other investment vehicles can offer higher returns compared to a standard savings account.

However, if the investments are in your child’s name, they are subject to the same high tax rate on unearned income. Alternatively, you can invest in your or your partner’s name to potentially reduce the tax burden, but the earnings will be taxed at your marginal tax rate, which might still be considerable.

Investment Bonds: A Long-Term Strategy

Investment bonds, also known as education bonds, child bonds, or insurance bonds, present a compelling option for long-term savings. These bonds are taxed internally at a company tax rate of 30%. If held for 10 years or more, any redemptions are capital gains tax-free, making them an attractive option for parents with higher marginal tax rates.

Investment bonds combine features of an insurance policy and an investment, offering a variety of investment options similar to industry superannuation funds. The key benefits include not adding to your tax bill, flexibility in accessibility, and the ability to nominate beneficiaries. You can also change ownership without incurring stamp duty or capital gains tax.

However, there are rules and limitations to consider:

  • Contributions are limited to 125% of the previous year’s contribution.
  • Capital gains tax benefits increase over time, with full exemption after 10 years.
  • Costs are comparable to industry superannuation funds, ranging from 0.6% to 1.5% per annum.
  • The investment menu may be more limited than other investment options.

Conclusion

Choosing the right savings plan for your child depends on your financial situation and long-term goals. Bank accounts are great for small amounts and teaching kids about money management, while investments can offer higher returns but come with higher taxes. Investment bonds provide a balanced approach with significant tax benefits, especially for long-term savings.

For personalised advice tailored to your specific circumstances, consider consulting with a financial adviser who can help you navigate these options and create a plan that best suits your family’s needs.