Do you want to put aside an investment for a child or grandchild’s future? Here are some key helpful tips and traps to avoid.

Giving our kids or grandkids a kick-start in life with their own nest egg has a lot of appeal to parents and grandparents. The funds could potentially help fund education, start a business, provide the catalyst to get them into their first property, or a range of other worthwhile goals.

While the idea is straightforward, the way you go about making the investment on their behalf can be fraught with issues. Here is a snapshot guide on what to look out for.

Begin with a clear goal

There is more than one way you can set up an investment for a child. To find the best way to suit your purposes and protect everyone’s interests first start with a clear idea of what you want the investment to achieve. This will influence the way the control of the investment is managed and the circumstances in which control will pass to the beneficiary.

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Discussing and outlining your goals will make things easier

If an investment is made under the child’s name, for example, then technically the child will gain control of the investment as soon as they turn 18. This may raise questions or concerns over what they will use it for. If you want to limit or prevent misuse then there are ways you can retain control. To make informed decisions on the best ownership structure you must start with a clear goal of what you would want the money to be used for.

Use available tools to meet your objectives

Once your goal is clear, you can then consider how ownership can be best structured. This may include the use of certain legal vehicles or investment products. Discretionary trusts, for example, allow you to set your own rules on where investment income is directed, the allowable uses of the money and when the beneficiary can gain access to the funds.

An investment bond may be another option. This is an investment product that has some inbuilt advantages that may be useful for a children’s investment plan, including:

  1. Ownership in your name.
  2. The child being nominated on the investment as the beneficiary.
  3. Option to nominate usage of the proceeds.
  4. Potential tax benefits which may save tax on earnings – especially if they are held for at least 10 years.

Using such vehicles, however, needs skilful assessment of how well they meet your objectives, so some professional legal and financial advice is a wise move if you want to explore them further.

Ownership structure affects how investments are taxed

As a general rule any tax liability on the income from the investment will be borne by the owner of the investment. In practice, however, this may not be clear cut. Depending on the ownership arrangement, the child may be considered to be the genuine beneficial owner and be obligated to submit a tax return for the income to be assessed. The fact that they are a child means they may pay tax at a rate higher than would be the case for an adult. Capital gains tax may also come into play – particularly if a transfer of ownership is going to occur down the track.

If you are receiving social security payments this must also come under consideration, as your pension benefits may be impacted if you are a trustee of the child’s investment.

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Capital gains tax may also come into play

Complexities such as this illustrate that it is not simply control of the investment that needs to be considered when deciding on ownership structure. 

Things may not always go to plan

Life is not always a smooth road and the possibility of things going awry must also be catered for in planning your investment. Issues like divorce may throw the control of the investment into uncertainty. Another possibility is the death of the trustee, in which case control may pass to the executor unless otherwise directed in the person’s will.

Professional advice can help you cater for such scenarios in your planning to avoid undesirable outcomes.

What type of assets should you invest in?

Like any investment, the choice of assets will depend largely on your own ‘risk appetite’ and the likely timeframe the investment will be held for. For example, if you have a reasonable tolerance for investment risk and you are investing for a young child with more than 10 years until they will need to use the funds, then a share or property based investment may be appropriate.

Good advice is essential

There are clearly many aspects to be considered in order to make the right move for your benefit and for the child’s welfare. The advice of a qualified financial planner coupled with sound legal counsel is highly recommended to avoid the pitfalls and set your loved one up for a positive future.

What do you find most appealing about investing for your child or grandchild? Join the discussion below.