Options for starting early on investment plan for baby

I have my first born child arriving this summer. To get ahead of things, I would like to set up a pension fund for him as soon as possible to avail of very long-term compounding. I would like to put in a small amount, say €100 per month this year, increase it with inflation each year, and hand over the running of this pot to him when he is around 25.

A straightforward Google search suggests that pension funds cannot be set up for children in Ireland but that small pots can be set up in the UK with a low annual contribution cap.

It seems highly counterproductive to me, given the well-established pensions time bomb coming down the tracks, that the Irish taxman would do anything to discourage prudent savings of any kind. I was wondering is it possible to set one up for him in Northern Ireland?

Mr J.W.

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First things first, good luck to you both with your impending arrival. We all want to give our children the best start possible and it is certainly good to see people being aware of the power of long-term compounding in maximising investment returns.

With the dearth of financial awareness training at school level, it is also encouraging to see people trying to make their children aware of the basics of budgeting and investment.

However, there are limits on what you are going to be able to do. And there are other factors to consider.

Prime among these is affordability. Young children often coincide with the early years of home ownership (for those lucky enough to be able to afford homes in the current climate) and couples will generally have extended themselves in repayment capacity to secure the mortgage required. Nappies and childcare to name but two of the costs incurred with young children impose a significant additional cost burden. The last thing you want to do is commit to a long-term savings plan only to find out that you are creating a financial black hole for yourself.

Having said that, for those prepared to consider it, you don’t have to spend a fortune on investing for your child – if you are fortunate enough to have the financial capacity.

The English child’s pension is a case in point. Some providers will open one of these Junior Self-Invested Personal Pensions (Sipp) for as little as £25 (€29) a month.

The idea of a Junior Sipp is that it is controlled by the parent (only they can set one up) but open to contributions from anyone (grandparents, uncles or aunts for instance) with total contributions capped at £3,600 a year including tax relief at 20 per cent. At the age of 18, control passes to the child in whose name it was opened but they cannot access the money until a pension age in the mid-50s unless they want to incur a swingeing 55 per cent tax charge.

The good news is that, as you say, it gets an early start on retirement savings and maximises the benefits of compounding; on the downside, however, for most people the greatest need for such financial support is much earlier than their mid-50s. If you look at the Irish situation, most young adults will tell you the time they would most appreciate the support would be when trying to set up home.

Speaking of Ireland, the concept of a Junior Sipp is academic because you cannot start such an investment here as it is open only to British residents. In any case, even if you could you would not be eligible for tax relief as a non-resident so it would have limited appeal beyond locking up your child’s money until their mid to late-50s.

The same issue applies for ordinary bank accounts, as my colleague Fiona Reddan reported recently. People are attracted by the higher returns on offer at banks across the Border in Northern Ireland but, according to AIB anyway, that is no longer possible. And that’s not down to the Irish Revenue Commissioners but rather down to Brexit.

“Under Brexit legislation, unfortunately, non-UK residents are unable to open a UK bank account. This applies to all UK banks and is beyond our control,” they said.

So what can you do?

In Ireland, a commonly used structure used when investing money for minors is a bare trust. Also known as a simple trust and, occasionally, a naked trust, this allows money to be invested on behalf of a child so that it, or assets acquired with it, can accumulate in value over time.

The three things to be aware of are (a) the child will have access to the fund once they turn 18, (b) there might be a gift tax implication if the parent / relation puts more than €3,000 into the bare trust in any financial year and (c) once you have put money/assets into the trust, you cannot withdraw them.

You can also consider a discretionary trust where the trustee has much more control over how the funds are invested and when they can be accessed by the beneficiary (in this case the child). However, they are more complex, can be less advantageous in gift tax terms and generally once the intended beneficiary turns 21, are subject to a once off 6 per cent levy and subsequent 1 per cent annual levies.

For those looking to open an ordinary bank account for their child, that can be done with most of the banks. In the case of very young children, the account will normally be in the name of the parent / grandparent or whoever opens it with the child’s name noted on the account.

Older children – those in secondary school – will generally be able to open an account but, depending on their age, it might have to be done with specific parental consent.

Please send your queries to Dominic Coyle, Q&A, The Irish Times, 24-28 Tara Street Dublin 2, or by email to dominic.coyle@irishtimes.com. This column is a reader service and is not intended to replace professional advice