Parents saving for their children could be starving them of a sizeable savings pot by the time they turn 18, as research reveals many are failing to take advantage of higher-rate savings accounts.
Some 34 per cent of parents have saved for their children in often low interest paying bank accounts over the last 12 months, while 37 per cent have used a standard savings account, according to the investment company Scottish Friendly.
While 45 per cent said they were using dedicated Junior Isas, be they cash or investment versions, it means a substantive number of parents could be saving into accounts unsuitable for building up a savings pot for their child.
Parents could be starving their children of substantial savings pots, new research suggests
Standard current accounts often do not pay interest, and even those which do tend to either be low-paying or time-limited.
The top interest rate available on a current account is offered by Nationwide Building Society and is just 2 per cent, and that can only be earned on balances of up to £1,500 for a year.
Other interest-paying current accounts pay just 0.8 per cent, from Lloyds Bank, and 0.3 per cent, from Santander.
Despite this, the amount of money held in non-interest paying bank accounts, including current accounts, increased by £52.3billion between April 2020 and the same month this year, to £242billion.
Meanwhile standard savings accounts pay 0.5 per cent at most, a rate which fails to keep up with the current rate of inflation. It means children run the risk of having their savings pots eaten away in real terms by the cost of living.
By contrast, cash Junior Isas are both tax-free and pay higher rates. At the moment the best rate available to everyone is offered by Coventry Building Society, which pays 2.25 per cent.
Even saving as little as £1,000 into the account would see a child end up with just under £1,500 when they turned 18, compared to £1,094.15 if it was saved into the top easy-access account paying 0.5 per cent.
The effect is magnified if parents are able to save more. Monthly contributions equating to £5,000 a year would return £110,830 after 18 years if saved with Coventry, compared to £94,154 with a standard easy-access account.
Of that sum, £90,000 would have been the contributed savings, and just £4,000 from the interest.
Alternatively, parents can choose to invest the money in stock market investments. Assuming a return of 5 per cent a year, before any fees are taken into account, £5,000 a year would be turned into £145,502 after 18 years in a stocks and shares Isa.
Up to £9,000 a year can be saved tax-free into a Junior Isa, after the limit was more than doubled in the 2020 Budget, and parents can pay into one of each type.
‘If the child is very young and the money will ultimately be used for a property purchase in 20 years’ time, a stocks and shares Isa invested in global equities could be appropriate as if the value of the investments fall in the short term, they should have time to recover before they are needed’, Alex Shields, a chartered financial planner at The Private Office, previously told This is Money.
Isa, Isa, baby
Parents with plenty of money to save each year have been handed the option to make their child a ‘millionaire baby’ thanks to the increased Junior Isa allowance of £9,000.
Parents and grandparents who could contribute that much each year would leave their child with a £275,000 windfall at 18, assuming a return of 5 per cent a year on the investments held in the account, according to calculations from the wealth manager The Private Office.
But beyond that, leaving the money in an adult Isa at 18 and not touching the acount at all would result in a pot of £1.67m at age 55, assuming the same return.
And that’s without adding any more money.
‘Conversely, if the funds are likely to be required for education costs in a couple of years’ time, a cash Junior Isa would likely be more appropriate as you would not want to invest in stocks and shares where the capital value is at risk.’
Parents may be choosing to hold the money in their own bank account in order to keep an eye on it, as money in a Junior Isa becomes the child’s when they turn 18.
However, if they are saving for a long period of time, they could invest it into a stocks and shares Isa in their own name in order to ensure they still look after it.
And lastly, a dedicated Junior Isa offers further tax advantages for both children and parents.
More than £100 in interest a year earned on a child’s savings outside of a Jisa if they have been gifted to them by a parent means the parent could incur a tax liability.
All interest earned, not just the amount earned above the £100 cut-off, would be treated as the parents. This would mean if they hold substantial savings elsewhere it could put them in breach of the £1,000 Personal Savings Allowance.
Some 954,000 Junior Isas were paid into in 2018-19 with £974million subscribed, according to the latest figures from HMRC.
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