The Child Trust Fund is dead: Long live the Childrens ISA!

December 9th, 2010

December 2010: One of the casualties of the Con-Lib Government’s programme of spending cuts was that children born after 31 December 2010 will no longer be eligible for a Child Trust Fund (CTF) account.

The CTF (formally introduced in Budget 2003) was initially introduced for children born on or after 1 September 2002 as a way of giving children a financial headstart in a tax-efficient savings environment.  The key benefit was that the Government provided an initial contribution of £250 for each eligible child (with the possibility of an additional £250 payment at age 7) but it was also possible for friends and family to contribute up to an additional £1200 each tax  year on behalf of the child.

Not surprisingly, the necessity for public expenditure cuts has meant that the £250 Government contribution to CTF accounts was seen as one of the luxuries that the public purse could no longer afford – According to Mark Hoban, Treasury Minister, scrapping the CTF contribution will save around half a billion pounds per year.  What was surprising, perhaps, was that the CTF was not simply retained (without the initial contribution) as a simple tax-efficient childrens savings plan going forward.

The good news is that the Government have indicated that, as an alternative, they intend to extend the ISA (Individual Savings Account) regime with the introduction of a ‘Childrens ISA’.   Although there will of course be no Government contribution, this will be a tax-efficient way of saving in much the same way as the abandoned CTF.

The Childrens ISA is likely to be available from Autumn 2011 and although finer details such as the contribution limits are not yet clear, one piece of good news is that the Treasury has indicated that the scheme will be backdated to ensure that no child born too late to be eligible for a CTF will not miss out on the new tax efficient savings scheme.

The Children’s ISA is expected to offer a choice between a cash or stocks and shares option (the latter will not be suitable for everyone due to the risks involved) with any returns being tax-free for the child.  It is also expected that, as with its predecessor, the child will not be able to take the money out until he or she reaches 18.

Of course, it is worth remembering that CTF accounts will still be available for children born before January 2011, although the Government contribution has now been reduced to £50. The child, friends and family will still continue to be able to contribute up to an overall total of £1,200 a year, and it will still be possible to change the type of account and/or move it to another provider.

Unit Trusts:-  A ‘unit trust’ is simply a ‘pooled’ investment fund where your contributions are invested with those from other investors – enabling the fund manager to spread risk and reduce costs.  It is possible to ‘designate’ unit trusts in the name of another person (including a child) and, provided this designation is irrevocably in favour of the individual any income or capital gains are usually treated as theirs – The only thing to bear in mind is that, where a parent applies for (or makes the contributions to) the investment, if the income exceeds £100 per year this would be taxed as the parents income.  There is no such issue, though, for a designated unit trust set up by (say) a grandparent.

Although these investments are not tax free, it is important to remember even a child has an annual personal income allowance (£6,475 for 2010/11) and the availability of an annual capital gains tax allowance (£10,100 for 2010/11).

Unlike the CTF or proposed Childrens ISA, there are also no upper limits on the amount you can contribute.

Stakeholder Pensions:- Up to £2,880 per year can be invested in a stakeholder pension in a child’s name (to which 20% tax relief is added making a gross contribution of up to £3,600).  One thing to bear in mind however, is that this would not be suitable if you wanted to give the child funds for say, university fees or a new car as they would not be able to access the fund until age 55 and even then are currently restricted to taking 25% as a lump sum.

It might seem premature to consider retirement planning for a child but consider this – Starting a stakeholder plan for a child age 1 now with a contribution of just £50 per month paid until they reach 18 could produce a fund (adjusted for inflation) of around £45,700* (assuming an annual investment return of 7% and that they take benefits at age 55). Saving for them now in a stakeholder could therefore be a great way of providing the child with a good head start.

You should note that the value of all investments can go down as well as up and therefore professional financial advice is essential.  Your financial advisor will be able to offer specific guidance on the best way of saving for your child’s (or grandchild’s) future.

*Assumptions used:-
–    Child will receive basic rate tax relief on the contributions.
–    Contributions continue to the child’s 18th birthday and then cease.
–    Inflation is assumed to be 2.5% per annum.
–    The figure assumes 7% investment growth per annum.  The actual rate of return and therefore the actual pension fund value could be higher or lower than the illustrative figure quoted.
–    The total value of their pension benefits from all registered schemes will not exceed the current lifetime allowance (£1.8m for 2010/11).

Levels and bases of and reliefs from taxation are subject to change and their value depends on the individual circumstances of the investor.

Investments in stocks and shares do not have the same degree of capital security as investments in deposits.