Make your child a pension millionaire
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Staff Writer
Ruth Jackson Feb 19, 2010
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How would you like to be able to give your child or grandchild £1.8m for their retirement? Well, with a little financial planning, you can.
Mention pensions and many people think immediately of old age. But in fact you can start saving for your retirement from the day you are born. About 60,000 children have pensions, according to HM Revenue & Customs, and the number is increasing as more families who can afford to lock up their money for 50 years or more take advantage of the tax breaks.
So, how can you make your child a pension millionaire? Pension rules state that you can start a pension pot for a child immediately after they are born, even if you are not related. Once you've opened the pension, you – along with anyone else who wants to chip in – can put up to £2,880 into a pension plan every year. The government adds £720 to that in tax relief, meaning £3,600 could be invested every year. This money can then grow without incurring income or capital-gains tax – for decades.
Now the power of compound interest becomes apparent. Say you invest £2,880 every year until the child's 18th birthday – a total investment of £51,840. An annual investment return of 6% after charges will turn that into £1.8m by the time the beneficiary turns 55. Taking inflation into account (at an assumed 2.5% a year), that pot would still be worth £356,000 in today's money, says Richard Evans in The Daily Telegraph. That will buy an index-linked annuity of around £15,500 a year, and means that even if the child never sets up their own pension, they'll still be far from the breadline at retirement.
And if that isn't attractive enough, then remember that the £2,880 annual investment falls under the annual inheritance tax (IHT) gift limit. So the money isn't liable for inheritance tax even if the person who gifts it dies within seven years of making it. So it's also a neat way of "potentially saving your heirs 40% in IHT", notes Evans.
Sadly, there is a catch. Locking your money up for 50 years or more isn't without risk. Over that time we could have ten different governments. Each will bring its own ideas in on pension rules and tax breaks. As such, the current pension system is unlikely to look the same in 50 years' time as it does now. So don't pile too much cash into pensions your children can't touch until they retire. Keep some cash – at least three to six months' salary – for emergencies. And make sure your own pension is well funded before helping your children.
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