Tax-efficient investing for children

Junior ISAs (JISAs) and Junior Self-Invested Personal Pensions (Junior SIPPs) offer a simple, tax-efficient way to save and plan for a child’s future. In this article, we explore the features of each one, as well as JISA’s predecessor Child Trust Funds (CTFs), and demonstrate how they can be used to grow regular small contributions into a sizeable nest egg over time.

One of the great things about adult ISAs is that they help keep life simple. When you’ve opened your account, not only is there no tax to pay on capital growth or income from your holding, but you don’t have to declare anything about it on your tax return.

The same is true for Junior ISAs (JISAs) which are the same kind of tax-free savings or investment account but set up by parents on behalf of their children.

Indeed, if anything they are even more robust savings vehicles than the adult version, because – in contrast to adult ISAs – no withdrawal of funds is normally possible until the child reaches 18 and takes ownership.

So how do JISAs work?

First, you need to choose whether to open a cash JISA – a tax-free bank or building society account, in effect – or a stocks and shares JISA. Cash is safe, but the opportunity for growth is very limited and it can be difficult for your savings even to keep pace with inflation.

If your child is still young and your aim is to save a nest egg that will stand them in good stead for the major expenses of early adult life, from university to a first home, then it makes better financial sense to select the stocks and shares version. That’s because over the long term you’re likely to get higher returns from investing in the stock market.

Stocks and shares JISAs are basically tax-free accounts offered by third-party providers and online platforms through which you can access and hold a wide range of investments, including individual equities, bonds and collective funds.

Most people make use of collective investments such as investment trusts or open-ended funds, as they are simple to buy, they spread the investment risk by holding a whole basket of company shares rather than just one or two, and the investment decisions are taken by experts. 

Once a JISA is up and running, friends and family as well as parents can contribute to it, up to the annual limit of £9,000¹.

To put that into perspective, let’s say that when baby Clara is born, parents and both sets of grandparents commit to regular contributions totaling £300 a month (which amounts to only £3,600 of the total annual allowance); the money is growing at an average 7% a year². By the time Clara reaches 18, her fund could be worth £128,000³ (disregarding inflation and potential risk to the capital) – a meaty deposit for a first home.

But even if you can only afford contributions of £50 a month, Clara could have a fund worth more than £21,000 by age 18⁴.

A child can have both a cash and a stocks and shares JISA at the same time, in which case the annual limit applies to the total contribution across both accounts in a tax year.

At the age of 16 the child can take control of the JISA if they want to, although they won’t be able to touch it or withdraw funds until age 18 unless they are terminally ill. At that point it is converted into an adult ISA, enabling the investments to continue to grow tax-free.

Be aware that parents have no say over access to the money when the child reaches 18, so there is a small risk that a wayward or rebellious teenager could spend it unwisely. It makes sense to educate your child financially and encourage them to engage with the investment as it grows.

Child Trust Funds

Children born between September 2002 and January 2011 will have a Child Trust Fund (CTF) – the precursor to a JISA – to which parents and other people can contribute in the same way. If you’re not sure where your child’s CTF is held, you can trace it here.

You cannot open a JISA for your child if they already have a CTF, but it’s easy to transfer. Simply open a new JISA with your chosen provider, complete a transfer form with details of the CTF to be moved, including the account’s unique reference number (URN), and send it to the JISA provider by post or email. They will do the rest, and the CTF account will then close.

Junior SIPPs

It’s also possible to set up a Junior Self-Invested Personal Pension (Junior SIPP) for a child, which would be locked away and growing until they are at least 57. Contributions are limited to £2,880 per tax year, but they benefit from 20% tax relief, effectively raising the maximum annual contribution to £3,600.¹

This might sound like a strange move to make, but it has appeal in several respects. First, if you’re in the fortunate position of being able to contribute the maximum allowance to a JISA each year and are looking for other ways to save for your child, it’s a tax-efficient option.

For older family members such as grandparents it can be a useful way to move spare cash out of their estate and on to the youngest generation.

It will also be a useful head start for the child when they come to build a pension through their working life; and the timescale involved means that there is scope for impressive investment growth over the decades.

To give some idea how a Junior SIPP might accumulate, let’s say the grandparents committed to pay in the full contribution for the first five years of their grandchild’s life. At a growth rate averaging 7%² and with no further contributions, after 60 years the fund would be worth almost £1.3 million⁵.

Many families don’t have such deep pockets, of course, especially if there are several children to treat equally. But even a single Junior SIPP contribution totaling £1,000, invested at an average 7% a year, would be worth almost £66,000 in 60 years’ time⁶.

Whether you’re drawn to a JISA or a Junior SIPP, over those lengthy timescales investment trusts’ track records and competitive charges really come into their own.

J.P. Morgan’s investment trusts 

J.P.Morgan has a range of highly rated broad-based investment trusts with a long-term growth focus that could make an ideal choice for a child’s JISA or SIPP investment; examples include The Mercantile Investment Trust, JPMorgan Global Growth & Income and JPMorgan American.

There’s no doubt that your commitment to invest on a child’s behalf can make a tremendous difference to their life choices in the long run – and the earlier in their lives you start, the better.