5 ways to start investing for your kids

A recent survey shows Aussie parents have no problem encouraging children to develop sensible spending habits. But when it comes to investing in shares, three out of five parents say they’re not confident teaching their kids how to get started.

That’s a shame because children have time on their side when it comes to compounding returns. And the earlier you start investing for kids, the more compounding can work its magic.

With this in mind let’s look at five ways to start investing for children.

1. Junior savings account

Opening a savings account for your child can seem like a no-brainer to encourage investing. Certainly, by coaxing kids to save part of their pocket money they can take ownership in a growing honeypot of cash.

The catch is that children can face strict conditions around deposits and withdrawals in order to earn a decent rate of interest. Even then, in today’s low rate world, it’s hard to find a junior savings account paying over 2.5%.

There are alternatives with the potential for higher returns. Yes, they can involve more risk, but remember, if you start investing when children are young, they’ll benefit from time in the market, giving investments a chance to recover from any downturns, and hopefully, continue growing in value.

1. Investment bonds

Investment or ‘insurance’ bonds work a bit like managed funds. Your money is pooled and invested along with other investors’ cash. You may only need $1,000 to get started, and extra contributions can be made each year (within strict limits), however a key feature is that investment bonds are ‘tax paid’.

Investment returns are taxed at 30%, with the tax paid by the bond issuer. As long as you hold onto the investment for a specified timeframe, usually 10 years, and make no withdrawals, bond holders don’t need to worry about paying extra tax.

Investors may also be able to nominate a beneficiary, such as a child, who the investment can be transferred to on reaching a certain age.

The potential tax savings of investment bonds are compelling – especially for high income parents. That said, the strict investment timeframe may not suit every family.  It also pays to watch for the annual fees, which can be over 2%.

1. Micro-investing

Micro-investing apps like Raiz, FirstStep and CommSec Pocket let you invest very small sums in a readymade portfolio, usually made up of exchange traded funds (ETFs). Some micro-investment options like Raiz Kids, make it possible to invest for children. But again, do watch out for the fees.

As a guide, Raiz charges $3.50 per month on accounts under $15,000. That works out to $42 annually. It may not sound like much, but in mid-2020 the average Raiz account was worth $1,725. On that balance, the $42 yearly fee works out to 2.4%. If the balance is less – say, $500, the $42 annual fee jumps to 8.4%. That’s in addition to fees charged by the underlying ETFs. 

The upshot is that on very low balances, your account needs to earn solid returns before it even breaks even. Something to bear in mind if you don’t have much spare cash to invest for your child.

1. Directly held shares

Minors can’t buy shares themselves, but parents (and grandparents) can buy shares in trust for children. It’s a lot simpler than it sounds. Major brokers like CommSec and nabtrade let you open an online trading account where an adult acts as trustee for the child. When the child turns 18, the shares can be transferred into an account in their own name. Capital gains tax shouldn’t apply as the child has been the beneficial owner all along.

Whichever parent holds the shares as trustee will need to include any dividends in their own tax return each year, but thanks to franking credits this shouldn’t be too painful.

The downside is that unless parents invest regularly to build a diverse portfolio of shares – a process that can rack up brokerage fees, the health of your child’s pint-sized portfolio may hinge on the fortunes of one or two companies.

1. Exchange traded funds

Just as parents can hold shares in trust for a child, so too they can invest in ETFs as trustee for a youngster. What I like about this option is that your money is spread across a variety of underlying investments. You can add further diversity by investing in several ETFs, each with a focus on different markets.

As the fees on ETFs are very low, often below 0.5%, more of your money goes to work growing a nest egg for your child.

Of course, you’re free to mix and match between investments. And by talking with your child about the progress of their portfolio, you may spark a lifelong passion for investing – and that can be priceless .

Effie Zahos is an independent Director of InvestSMART, money commentator at Canstar.com.au and Channel 9 Today Show.

Investors are able to open an InvestSMART Professionally Managed Account as trustee for a minor. Click here for more on InvestSMART's investment options.