Children get a financial boost with CTFs

• What are Child Trust Funds?
• Which of the three types of CTF is best -
  cash, stakeholder or equities.
• What should I do?
• Action plan
• Best deals

Child Trust Funds (CTFs) have been going for three whole years now (doesn't time fly?) and parents seem to be getting the hang of the fact that it is actually free money with no strings attached - strange but true. In fact, a third of children in the UK are now eligible for a CTF account and on average parents are saving £24 a month on top of the free money they get from the government.

If every family put this kind of money into their children's CTT by age 18, they could receive a lump sum of £9,750 and if the parents managed to top it up to the maximum level of £100 a month, a CTF account could be worth more than £37,100 when their child reaches 18. So you can see that it really is worth doing.

So what exactly are CTFs?

A CTF is free money from the government! Even better, the money is given tax free. CTFs are very similar to Individual Savings Accounts (ISAs), in that you can either open a cash account or invest in the stock-market tax free. If CTF vouchers are not cashed within a year, the Inland Revenue automatically invests the cash into a stakeholder Child Trust Fund, one of the three types of Child Trust Fund.

CTFs are not all that complicated, all you need to know is:

• The CTF money comes in the form of a voucher. Every child born after 1 September 2002 is sent a £250 voucher to invest. When they turn seven they are sent another £250, which goes straight into their CTF account.

• Children in lower-income families receive an additional £250, ie. a total of £500, when they are born. Families with a household income of £15,575 or less between April 2008 and April 2009 will receive the extra payment.
• You'll also get an additional payment of £250 (£500 if you're on a low income) once your child reaches seven years of age.
• The voucher can be invested in three different types of account; a simple savings version, a stakeholder version or an equity version. (See explanations below).
• The money can't be touched until your child is 18, which removes the temptation to take it out and buy an Xbox.
• The money is invested tax free, which means you don't pay tax on the interest in the account.
• You can keep adding to the child's account, up to £1,200 a year, and friends and relatives can add, too. In fact, if you can get ten family members to give £10 each a month, you could have a tidy sum put away.
• At any time you can move the account to a different provider or change the type of account.

If you need more convincing then maybe the following research may just sell you the benefits of putting extra money into a CTF. According to The Children’s Mutual, youngsters given £20,000 at 18 are most likely to save it (57%) than spend it.

So which CTF should I choose?

Good question, and sadly, there is  no simple answer. The main dilemma facing parents, and maybe one of the reasons why CTFs are not as popular as had been expected is because you have to choose between three different types (why they can't just make these things simple, we don't know!).

Cash CTF

These work just like an ordinary savings account and they're fairly popular with many parents. But do remember that, over the long-term, deposit accounts are nowhere near as good an  investment as stock-market-based investments. Over 18 years, a cash CTF will pay an interest rate of 5-6%. So the initial £250 gift will be worth around £600 by the time the youngster can get at their money.

The best cash rates often incorporate an introductory bonus which may only run for a year, and certain higher interest rates may only apply if parents top up the account, so keep an eye on the rates if you go for one of these. You can't afford to get complacent as interest rates change.

If you want to invest in a Cash CTF, the best deals currently are with these building societies: Hanley Economic BS at 8% AER, Britannia BS at 7.25% AER (this rate includes a 24 month bonus of 1.25%) and Chorley and District BS at 7% AER.

Stakeholder CTF

These invest, indirectly, in stocks and shares (equities). But because they tend to be trackers, which invest in a wide variety of different companies, they are considered a less risky bet (see our article here about Index-Trackers). Also, the fund will start to move the youngster's cash into less risky investments when they turn 13. This is called 'lifestyling', and it means the fund will switch into cash-based investments at that point as they are more stable.

It might look worrying but stakeholder CTFs have the potential to do much better than a cash CTF. Each CTF is invested for 18 years, so it can ride out the lumps and bumps of the stock-market. Also, stakeholder CTFs have low annual charges, they are capped at 1.5% of the fund, which is good news for the future of your investment. Don't be put off by the way the stock market has behaved in the last year, by the way. Remember that over time the ups and downs of the market are smoothed out and, with an investment that lasts as long as 18 years, you will make more money for your child through this kind of investment than with cash.

Check out this government website for more information on the various providers that offer Stakeholder Child Trust Funds. It takes you through the steps to open up a stakeholder CTF although, of course, it doesn't recommend a specific fund, which puts the onus back on you. However, we feel that that the F&C Stakeholder CTF (a FTSE All Share Tracker fund) is worth considering. It has relatively low charges and no exit penalties if you decide to move to a different CTF in future.

You can also get free brochures about various stakeholder Child Trust Funds here.

Equities CTF (shares)

For many parents the idea of investing directly into shares is too scary to contemplate, but some could consider it, especially parents prepared to use the full £1,200 top-up allowance. The chances are that these parents can afford to take more of a risk with the money so they might be a bit more prepared to put up with the ups and downs of share performance. An equity CTF is similar to the stakeholder version, but it offers more choice of investment vehicles. It is effectively a tax-free wrapper for parents wanting to invest directly in shares (the 'self select version') or in collective stock-market investments like unit trusts.

But parents need to be prepared to deal with the amount of risk before going for the self-select option. An equity CTF has more choice than a stakeholder CTF, but it will be more expensive. Buying shares will come with dealing costs as well as an annual management charge which is likely to be higher than the charges on stakeholder CTFs. Remember that the amount you pay in annual charges directly affects the growth of your investment over the long term.

You can get free brochures about shares-based Child Trust Funds here.

What should I do?

The main consensus among investment and savings experts is the stakeholder version of a CTF is the best all-round bet as they are mostly invested in equities (which are best long-term) and they have relatively low annual charges. But really it depends on what you are most comfortable with. However, if you are still thinking about a cash account do remember that in the long-term, cash accounts don't keep up with inflation and your child will end up with less money than she would have done with a stakeholder or equities CTF.

Action points

• Get some free brochures about stakeholder and equities CTFs. Read up about them.

• Decide which type of CTF you want to go for, then try and put some extra money into that pot each month. Also, encourage other family members to do the same. The more you put in, the better financial start you will give your child.

• Let others know what you think about different funds on our messageboards and find out what they think.

• Register with KidStart, the reward scheme that gives you cashback when you shop in certain stores and puts that cash into a CTF or a savings account for your child (or someone else's child if you want to help them). It helps you save money even if you think you don't have any!

Best deals

• The best Cash ones are Hanley Economic BS at 8% AER, Britannia BS at 7.25% AER (this rate includes a 24 month bonus of 1.25%) and Chorley and District BS at 7% AER.
• Stakeholder and Equities CTFs are the best bet long-term, particularly stakeholder. You can get free information brochures on these here. We think the F&C Stakeholder CTF is worth considering.
• Get money put into your child's (or a friend's child's) trust fund for free when you shop with Kidstart.

Useful links

• More information is available on the official Child Trust Fund site.
• The Investment Management Association has a factsheet online, or call 020 7269 4639.
• For stakeholders, check out this government website.

Related articles

• Children's bank accounts
• Pocket money
• Investing in shares