The basics of investing for kids (and grandkids)

Worried about what the financial future looks like and want to help your kids? Here's what you need to know about investing for kids.

Investing for kids has come a long way since the days of sending kids off to school with a few coins in a bank passbook. And not just because regulators decided the ethics of using sophisticated marketing tactics to lure children into sticking with a bank account was decidedly questionable and disturbingly effective… (I’m sure I’m not the only one out there who still had the same bank account as I had at five years old until my early 30s).

Better technology, better financial education and better access hasn’t just meant that there are more investors out there, it’s also meant more demand for products to create portfolios for children that can help set them up later. It’s also a fantastic way of helping them learn financial literacy, if you get them involved too.

There’s plenty of options out there, but it’s not necessarily a set and forget activity. To that end, I spoke to Peter Nevill from Viola Private Wealth and Arian Neiron from VanEck for the ins and outs of investing for kids.

The portfolio structure

There are a variety of ways you can invest for kids, but you need to bear two things in mind:

1. Kids under 18 can’t legally own shares (meaning you need to hold them yourself or in a specific structure).
2. Any unearned income (dividends, interest, capital gains) over $416 a year will require you to lodge a tax-return for your child if the shares are in their name in a trust structure or similar. (Read more at the ATO)

According to Nevill, these are some options to consider:

• In the child’s name with the parent as a signatory. This option avoids a capital gains tax event down the track because there is no change of ‘ownership’ but you do need to be conscious of income earned on the portfolio and the potential need to lodge a tax return for your child.
• Informal trust where the parent holds the investment on behalf of their child and transfers it to the child at 18 years old. Any income and capital gains are assessable to the parent. The transfer at 18 years old can result in capital gains tax implications.
• Family Trust: a flow-through vehicle allowing the streaming of income and capital gains to beneficiaries in a tax-effective manner. It can be expensive to set up but useful when the investment balance is material (or if the structure already exists so you are just adding the child to it). Nevill notes these can be “brilliant for flexibility, control, and asset protection”.
• Investment bonds: “Think of these as a tax-paid wrapper. Invest within and the provider pays tax at 30%, and after 10 years, you can withdraw the money ‘tax-free’. The child can also be nominated as the future beneficiary. Be mindful, there are tax penalties if you need to withdraw the money early, so think of it as illiquid.”
• Superannuation: it’s an existing structure and tax-effective, but bear in mind your child can’t access it until retirement, so if you want to help them earlier, you’ll need to consider other options.

One of the simplest and most common ways people access is the informal trust structure, which many trading platforms offer these days. For example, Commsec, Nabtrade and Selfwealth offer directions on how to use their platforms for minor accounts. You can also find businesses like Stockspot, which use an informal trust system for minors and do the investing on your behalf.

Nevill suggests that if you go for the approach of an informal trust, it is simplest to put the account in the name of the parent with the lowest marginal tax rate, given any income will need to be factored into their tax return.

What should the portfolio look like?

Just as when you invest for yourself, you need to ask yourself a few questions that will help you structure the portfolio.

1. What goals do you have for this investment for your child?
2. What is the investment timeframe and how old is your child now?
3. What you can afford to contribute to the portfolio?

For example, if your child is 15 and you want them to use the money to buy a car in three years, putting regular contributions into a term deposit or a high-interest savings account might be more effective than looking at an investment portfolio.

By contrast, if your child is five and your focus is to build as big a pool as possible for dreams like a home deposit, university costs, or other lifestyle needs your child might have, you might be taking a more aggressive investment approach.

“For young children the focus would be on long-term, high-growth cost effective opportunities that perform well through the economic cycle,” says Neiron.

He advocates a diversified portfolio that incorporates quality international equities from developed countries, Australian equities and large and mid-cap stocks from emerging markets like China, South Korea and India.

Nevill suggests the following asset allocations could be valuable to consider – if you start young, you can adjust over time.