If you’re looking to provide your child or grandchild with long-term financial security, you might want to consider starting a pension on their behalf.
Even a small amount saved into a pension regularly for them could build up into a substantial nest-egg in the future, especially as your money has so much time to grow. This could provide them with a valuable head start when it comes to retirement planning, enabling them to focus on other more immediate financial pressures, such as saving towards a property deposit, or covering childcare costs.
Here, we look at how to start a pension for a child or grandchild, and the pros and cons of doing this to provide for their financial future.
If you’re thinking about getting independent financial advice, financial services company Fidelius is offering Rest Less members a free initial consultation with an independent financial advisor to chat about your finances, where you are now, and where you want to go.
There’s no obligation, but if they feel you’d benefit from paid financial advice, they’ll go over how that works and the charges involved. Fidelius is rated 4.7/5 from over 1,000 reviews on VouchedFor, the review site for financial advisors.
How to start a pension for your child or grandchild
As a parent or the guardian of a child, you have a number of options when it comes to starting a pension for your child. You can open a junior self-invested personal pension (SIPP), for example, which is a type of personal pension that gives you a wide range of investment options. Once set up, you must manage this, although anyone can pay into the account, such as grandparents or godparents. A grandparent cannot open a SIPP on behalf of their grandchild unless they are the legal guardian – it must be arranged by the parent. Find out more in our guide Everything you need to know about SIPPs.
Junior SIPPs work similarly to adult SIPPs as you can invest in a wide range of assets on your child’s behalf, such as individual shares, funds and exchange-traded funds (ETFs). You benefit from tax relief from the government. However, the amount you can contribute is limited (find out more below about the rules below). Read more about the different types of investments in our guide Investing jargon explained.
Alternatively, you may choose to open a personal pension or a stakeholder pension on behalf of your child. With these, you choose the pension provider, and invest in a ready-made portfolio of funds or choose from a limited range. If you haven’t much investment experience or time to choose investments, this may be a more suitable option for you. Again, this must usually be arranged by a parent or legal guardian, although grandparents can make contributions whenever they want. Find out more about the different types of pension in our article What are the different types of pension?
You can open a pension for your child online through a pension provider, but make sure to check the charges, as these can rack up over time and make a big difference on the size of your child’s pension pot. These include the annual administration charge will be for whatever type of pension you choose, including the fees to buy and sell funds or shares.
The benefits of a junior SIPP
Tax relief: Contributions to a junior SIPP are boosted by basic-rate tax relief at 20%. This makes a big difference to the value of a pension pot over time. Essentially, some of the money that you would have paid in tax to the government goes into your pension instead. Find out more about how this works in our guide How pension tax relief works.
Timeframe: Contributions particularly benefit from the effect of compounding over decades, as investment returns are earned on top of returns already made. For example, let’s say you invest £50 a month into a child’s pension, paying in £600 each tax year from birth to the age of 18. After this time, £10,800 will have been invested, and assuming average investment returns of 4% a year (and charges of 0.75% a year) the pot will be worth £14,600, according to calculations by Aviva. If the fund is left invested for another 42 years to age 60, it’ll be worth £55,300, rising to £64,800 by age 65 (with investment growth and charges at the same rate).
Financial education: You could use your child’s pension as a way to teach them about the benefits of saving at a young age. Once they are old enough to understand, explaining the value of starting a pension on their behalf and making even small savings over time could encourage a greater understanding of the importance of financial planning over the long term.
Saving for the long term: Your child cannot access the money held in a junior SIPP until their mid 50s at the earliest, with the minimum age you can take benefits from a personal pension 10 years below State Pension age. This prevents them from withdrawing and spending the money on something which may not be financially prudent, such as a flashy car or new clothes. By contrast, they can access money in a junior ISA from the age of 18.
The downsides of a junior SIPP
Investment risk: As with any investment account, the value of a Junior ISA could fall as well as rise, and there are no guarantees that your investments will perform well. However, a child’s pension has plenty of time to ride out the peaks and troughs of the stock market and hopefully grow in value.
Restricted access: This could also be seen as a benefit (as mentioned above). However, you may find that your child won’t be grateful for money held in an account that they cannot access for many decades. They may really need money from you at a younger age, for example, help with a property deposit.
Rule changes: Between the time you start a pension for your child and they reach retirement age, chances are, pension rules will change. For example, pensions currently offer generous tax relief, but there are no guarantees that this won’t be restricted or even abolished in years to come. Under current rules, however, you can pay a maximum of £2,880 a year into a child’s pension and tax relief boosts this to £3,600.
Should you start a Junior SIPP for your child or grandchild?
Before setting up a pension for your child and contributing to this make sure that you’re on a sound financial footing yourself. This includes having cash savings for a rainy day that amount to three to six’ months worth of expenditure, and contributing to a pension yourself.
You also want to consider whether your child may attempt to access the pension early, if they really need the money. Current rules mean that money withdrawn from their pension early will be subject to a 55% tax charge as they’ll be making an ‘unauthorised payment’.
Junior SIPP rules
As mentioned, you can only set up a Junior SIPP if you’re a parent or legal guardian of the child, and you’re able to do this from birth. Anyone can pay into the pension once it’s set up, including grandparents and godparents, for example.
You manage the savings plan until the child reaches age 18, when they are allowed to take over control and make decisions about their investments, for example. However, as with any other defined contribution pension plan, they won’t be able to access the pot until they reach a certain age. You’re currently able to withdraw money from a defined contribution pension at age 55 (rising to 57 in 2028).
You can pay up to £3,600 a year into a Junior SIPP in the tax year 2022/23 (of which you’ll contribute £2,880 and the government £720 in tax relief), and you have until the end of the tax year on 5 April to use this annual allowance. You don’t have to pay in this amount and many providers will let you contribute, for example, as little as £25 a month. By contrast, you can pay in up to 100% of your earnings every year to an adult SIPP and qualify for tax relief on your contributions up to a maximum of £40,000, known as your annual allowance. You can read more about pension allowances in our guide How do pension allowances work?
When you set up a Junior SIPP, you should nominate a beneficiary such as a sibling, another family member or charity to inherit the money if the child dies.
How to choose a Junior SIPP
There are several considerations when you’re choosing a Junior SIPP for your child. Among the most important are the charges involved, as these can rack up over decades and significantly reduce the value of the pension pot.
Costs typically include the platform fee, or annual fee for the Junior SIPP, which is usually a percentage of the money invested. For example, this may be 0.35% on pots worth up to £250,000, falling to 0.2% on amounts over this. You may also pay trading fees for buying and selling shares at up to £10 a time, although you may receive one free trade a month on some accounts, for example, or lower costs if you frequently trade.
Some competitive providers of Junior SIPPs, taking into account service and charges, include Fidelity Personal Investing, Hargreaves Lansdown, and Bestinvest.
For example, Fidelity offers a ‘Cost Focus’ ready-made portfolio as part of its Junior SIPP, which is a simple option for parents or guardians who don’t have the investment knowledge or time to choose investments themself. Total fees are an average of 0.32% for fund management and transaction costs, but there’s no annual charge for the account.
Alternatively, if you’re comfortable choosing the investments for your child’s SIPP, Hargreaves Lansdown offers a DIY account, at a cost of 0.1% and 0.45%, depending on the amount invested. Trading costs are £5.95 for buying and selling shares. You can also choose investments yourself in Bestinvest’s Junior SIPP, which comes with a platform fee of between 0.4% and 0.1%, and trading costs of £4.95.
What are the other options for saving for a child?
There are a number of other ways that you can build up savings for your child’s future aside from starting a pension. You can read more about these and some of the accounts available in our article Financial gifts for young children: what are the options? These include, for example:
Children’s savings accounts: You can choose from a range of children’s savings accounts, such as easy access, regular savings or fixed-rate accounts. As interest rates have risen over recent months, there are some attractive rates on offer if you’re not comfortable accepting the risks involved with investing.
Premium bonds: You can buy government-backed Premium Bonds for your child to give them the chance to win cash prizes in the monthly draw. Any prizes are paid tax-free. The minimum amount you can buy is £25 worth of Premium bonds, and the maximum is £50,000. However, there’s no guarantee that your child will win prizes, and you may prefer choosing an account with a higher definite rate of return. You can find out more about how Premium Bonds work in our article Are Premium Bonds better than savings accounts?
Junior ISAs: These are a tax-efficient way to save for your child. They are similar accounts to adult individual savings accounts (ISAs), as money can be placed in both cash and stock and shares and returns are free from tax. However, the annual allowance differs as you can save up to £9,000 a year in a junior ISA compared to £20,000 in an adult ISA each tax year. Once your child turns 16, they can take control over their junior ISA, but they can’t take any money out of their account until they reach the age of 18. Read more about this type of savings account in our article Everything you need to know about ISAs.
Where to go for more help
Whether you’re saving into a pension on your child or grandchild’s behalf, or for yourself, there are plenty of places to go for guidance and financial advice on your options.
The Government’s Pension Wise service, run by the Pensions Advisory Service and Citizens Advice, provides people aged 50 and above with free guidance on their pension choices at retirement. You can give them a call on 0800 138 3944 to book a free appointment, or you can book one via their website.
If you’re thinking about getting independent financial advice, financial services company Fidelius is offering Rest Less members a free initial consultation with an independent financial advisor to chat about your finances, where you are now, and where you want to go.
There’s no obligation, but if they feel you’d benefit from paid financial advice, they’ll go over how that works and the charges involved. Fidelius is rated 4.7/5 from over 1,000 reviews on VouchedFor, the review site for financial advisors.
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