By Ana Kresina
There are many reasons why you may want to invest for your child. Perhaps you want to have a forced savings plan for their future. Maybe you want to be able to help them out with a downpayment, school costs, or you may just want to give them a head start in life.
Whatever the reason, creating generational wealth can truly change the financial trajectory of their life and be incredibly impactful for their financial future. Itโs important to note that before investing for your kids, you should ensure that youโve got your own finances covered and are in a good financial situation.
Similarly, making sure you are clear of any consumer debt, have an emergency fund and are projected to have enough money in retirement is of utmost importance before investing for your kids. Plus, itโs best to invest money that you wonโt need access to for at least seven years. If youโve got that sorted, then investing for your child may be a great option for you.
So letโs break down the five different ways to invest for your child in order to grow their wealth.
1. Investing through an informal trust or minorโs account
One option to invest for a child is through an informal trust, in which an account is held โin trustโ for the child, whoโs a minor. The idea is simple: the parent acts as a custodian and can invest on behalf of the child, and once the child turns 18 the shares can be transferred into a new adult brokerage account held by the child. By law, the parent would be the legal owner of the shares and have full control of the investments, whereas the minor would be a beneficiary.
The advantage of this approach is that, typically, capital gains tax (CGT) wonโt apply when there is no change to the beneficiary โ in this case, the child for whom the investments were intended.
2. Investing directly in the parents name through a brokerage account
One of the simpler options is to invest for your child in your own name through your own brokerage account. Itโs important to remember that when transferring the ownership of investments (or gifting shares) to your child, a capital gains tax event may be triggered, meaning a CGT will be applied to the account ownerโs marginal tax rate. Which is why itโs advantageous to speak to an advisor or accountant.
This strategy may be especially advantageous if the parent investing under their name has a low income, since dividends are taxed at your marginal tax rate. Although this strategy isnโt tax-advantaged, itโs easy to execute and provides flexibility in the case that your investment priorities change.
3. Investing through a family trust
Investing through a family trust is a strategy often favored by affluent families due to its substantial tax benefits. However, the initial setup costs (which can amount to a few thousand dollars) and ongoing accounting requirements may offset these benefits if the investment amount isnโt substantial.
The biggest benefit of this option is that the trustee has the authority to decide how the trusts assets are invested and distributed. For example, the trustee can choose to distribute assets to children as they deem appropriate, such as when their taxable income might result in no income tax being paid on the gain, or paid at the lowest marginal tax rate, after they turn 18.
A family trust can also provide flexibility and asset protection because the trust can invest in various assets and is itโs considered a separate legal entity.
4. Investing via investment or insurance bonds
An investment bond is an investment vehicle that provides tax benefits to those who want to invest for ten years or more and not tap into the money during this time. After ten years, you can withdraw your investment tax-free. While your investment is growing, any returns you earn before the ten years are up are taxed at 30% (and not included in your tax return, because they are taxed within the bond).
There are some rules that come with investment bonds, so itโs best to have an understanding around the contribution rules from year to year. Otherwise, this is a great way to invest if your strategy is to โset and forgetโ and may even be one that grandparents would want to consider.
5. Investing in financial literacy and education
For some of us, investing in our child is less about giving them money, and more about giving them the tools to create their own destiny. One of the best things you can do to set them up for success is to expose them to financial concepts such as avoiding debt, budgeting their money, and investing for the long term.
Leading by example when it comes to finances can help your child have the confidence to even pursue entrepreneurial ventures โ such as selling bracelets, mowing lawns, or creating greeting cards. Who knows they may be the CEO of the newest tech company in the future due to their entrepreneurial nature. Nurturing their curiosity and providing practical teachable moments can really provide the tools needed for your child to build their own wealth in the future.
Ultimately, with your support and guidance your child will be set up for success as you invest in their future.
*This article is not financial advice; please speak to a financial advisor and/or tax accountant when considering investing options and products. Please note: if your child is under 18 years of age and owns shares, they can only earn $416 tax-free per financial year, therefore speaking to a professional is advised.
Ana Kresina is a financial educator and author of Kids Ainโt Cheap: How to plan financially for parenthood and your familyโs future. She works in the financial technology industry and is cohost of one of Australiaโs leading finance podcasts, the Get Rich Slow Club.