Teach your child the right way to save

Published by on 31 August 2010.
Last updated on 27 September 2010

kids with piggy bank

A savings account is the perfect financial product for every child. As well as letting them earn interest on their savings, it also enables them to learn about money and, hopefully, catch the savings bug.

Several factors will determine which savings account is right for your child. The interest rate is important, and at the top of the Moneyfacts rate tables (at the time of going to press) are a one-year fixed-rate regular savings product from Halifax paying 6% gross, and a five-year fixed-rate bond from Clydesdale Bank paying 4.45%.

For a standard instant-access account, the top deals come from Northern Rock, which pays 3%; Chorley & District Building Society, paying 2.9%; and Earl Shilton Building Society, paying 2.25%.

But rather than taking the best rate, you might also want to look for an account that consistently pays high rates, especially if the plan is for the savings account to grow with your child.

This was one of the criteria used in Moneywise's children's savings awards, alongside fair terms and conditions, putting Chelsea's Ready Steady Save paying 2% in first place, with Halifax's Save4it paying 1.05% second.

Terms and conditions are worth checking out too. Many accounts have a minimum investment of £1, which is great, but look out for higher minimums. For instance, Earl Shilton has one of the top rates but requires a minimum investment of £250.

Perhaps more troublesome are terms and conditions surrounding withdrawals. Although most of the standard accounts are fairly flexible, you can run into trouble if you want to move money around with a regular savings or fixed-term product.

For example, with Halifax's Children's Regular Saver, you'll get an interest rate of 6%, providing you save regularly and don't make any withdrawals during the course of the year.

Whether you go for a simple account or one with more terms and conditions, you might also want to pick something with a local branch. Being able to go into a local bank or building society to pay in money can really help a child develop a good savings habit.

Tax advantages

Another advantage of opening a savings account for a child is the tax position. Save in your name and if you're a taxpayer, the taxman will swipe anything from 10% to 50% of the interest earned.

But while your child has exactly the same tax allowance as you, chances are they won't use it, so interest is paid tax-free. All you need to do is complete form R85, which the bank or building society will be able to give you.

There is an exception to this, however. To prevent tax evasion, if more than £100 of interest is generated a year by money given by a parent or step-parent, it will be treated as theirs for tax purposes.

If there's a possibility of a tax charge, whether due to the child having other income sources or the money coming from a parent, there are a number of tax-free savings products that may be worth considering.

At 16, a child can open their own cash individual savings account, into which they can save up to £5,100 each year.

Even where there's no immediate risk of paying tax it can be worth considering a cash ISA. Not only will the money be sheltered from tax when they do start paying it, but rates are often better.

For example, according to Moneyfacts, if you want instant access and a minimum deposit of £1, the best ISA (Cheltenham & Gloucester's cash ISA) pays 2.7%, compared with the best savings account (Northern Rock's Branch Saver) at 1.9%.

For younger children, or as an alternative to an ISA, a range of tax-free savings products are also available from National Savings & Investments. Children's Bonus Bonds pay a guaranteed rate of interest, with a bonus added every five years.

For example, the current issue, number 34, pays a guaranteed rate of 2.5% a year, including the fifth anniversary bonus.  

The NS&I has withdrawn its index-linked savings certificates from sale for now, although existing customers can roll over their investment into the same issue.

These are also tax-free and taken out for a fixed term, usually three or five years, over which time they are guaranteed to beat inflation.

And, if you like a bit of a gamble but with the added security that you'll never lose your initial investment, premium bonds can also be taken out in a child's name.

Investments start at £100 and each £1 bond could win anything from £25 to £1 million each month, completely tax-free.

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