Catherine Neilan explains why the Child Trust Fund should be seen as a starting point for future savings

The start of 2009 sees an addition to the Labour government’s Child Trust Fund (CTF) scheme, designed to encourage saving among children, three years after it was first introduced. Tacked onto the 2005 version of the CTF – which included a £250 government voucher – is a second lump sum of the same amount (or £500 for those in low-income families).

This will be given to every child in the country when they hit the magic age of seven, which, as the venture is backdated to 2002, means that the first wave of secondary vouchers will be given out in less than two months. The main reason behind this extra voucher is to spark further interest in the savings scheme among both children and adults.

Although the number of parents who already select an account is reassuringly high – 74 per cent of vouchers issued before July 2007 according to Her Majesty’s Revenue and Customs (HMRC) – the number of parents investing additional sums thereafter is relatively low. Less than a quarter of children born during or before 2006 have received an additional contribution since the account was set up, regardless of whether this was initially done by a guardian or via the default ‘revenue allocation account’.

Room for improvement
Tony Vine-Lott, director general of the Tax Incentivised Savings Association (TISA), believes that more engagement, by both providers and the government, is vital if CTFs are to be as beneficial as they could be. For this reason, he supports the plan behind the second voucher.

He argues that ‘Although CTFs have been very successful, we should continue to try to increase that take-up number. There are six million parents out there who have a scheme for their children, and we feel perhaps now is the time to put more effort into getting that tranche of people better engaged. Some providers are doing well, and some aren’t doing quite so well. The government could take some steps to market it more.’

In particular, he highlights the planned Schools Money Week – part of an £11.5 million initiative to teach young people about their finances – as a vital opportunity to get children and their parents on board. Vine-Lott believes CTFs have a twofold purpose – to give young adults financial independence when they hit 18 and to develop ‘financial inclusion’ for those who have never before been part of that world.

‘About 13 per cent of people don’t have bank accounts, and often their interaction is with groups on the fringe,’ says Vine-Lott. ‘CTFs could create a situation where 100 per cent of society understands and uses financial products.’
The high proportion of children whose CTFs are invested in the stock market, usually through a tracker fund as part of a stakeholder account, would also benefit from understanding more about ‘risk, and the difference between good-performing institutions and bad ones,’ Vine-Lott adds.

Continued appeal
Perhaps surprisingly given the recent economic downturn, Vine-Lott says investment – both in terms of the number of people investing and the amount each individual is putting in – is going up year on year. According to HMRC, some £3.82 million has been invested so far.

Tony Vine-Lott feels that ‘The scheme has already been extremely successful and has the opportunity to be more successful. We are working very closely with the government to make sure that is the case. The main sticking point is getting parents and kids engaged, but I am pretty confident we will see things start to happen in the next year.’

However, as with the limits on individual savings accounts (ISAs), a number of industry practitioners believe that the government should raise the annual total CTF limit – currently £1,200 – in line with inflation. Vine-Lott says TISA is ‘pushing hard’ for the government to increase this, and the size of the voucher donations, ‘but it’s not really the economic time for it to happen.’

Ian Benning, product development manager at The Share Centre, is less pragmatic. His company has started a campaign called Fair Deal for Newborns, which aims to raise the initial donation to £288, to give babies born this year ‘the same start as when the scheme was started’.

But Benning also agrees that the main sticking point with the scheme is engagement. ‘The issue everyone has with CTFs is encouraging parents to top them up and put more money into them. The vouchers are a great start for a child, but unless a parent or grandparent tops it up it is not going to be worth a huge amount.’

He highlights his own family – with one daughter at university and a son aged 18 – as one that could have benefited from the annual investment. But he also recognises that getting the message across to parents when they have their baby in their arms is difficult. ‘You are not visualising that baby as an 18-year-old. It is difficult to imagine – but it is important that they do so.’

Building up
According to the HMRC’s own Child Trust Fund Calculator, a stakeholder account – which carries a 1.5 per cent maximum charge – opened this month without further contributions would be worth slightly more than £1,300 on turning 18. This is working on the basis that the investment – a UK tracker fund – returns nine per cent a year. Working on a more realistic five per cent annual growth, the CTF will contain £830 after 18 years.

However, a child receiving the maximum £1,200 yearly contribution could receive a fund worth £43,000 at nine per cent a year or £32,000 on the more conservative estimate.
‘The message is this: parents, pay as much money in as possible,’ says Benning. ‘Take advantage as much as possible. Think about what your child is going to be at 18, and about what that money could be used for – university fees, setting up home and so on. If they are debt free, they will have such a great start in life.’

Selecting a provider will largely depend on what type of product you are looking for. All providers must offer a stakeholder account, with an upper limit of 1.5 per cent annual charge. In the case of The Share Centre, this account invests in a Legal & General UK Index Tracker. Once the child is 13, automatic risk adjustment is brought in, to retain any profits made, by moving into lower-risk investments such as cash.

Providers can also offer a savings plan from which other funds can be selected or individual shares can be bought. There is no cap on the charges for this option. Benning estimates that ‘more than 80 per cent of our accounts are in the more flexible option, but in the case of most providers, the stakeholder account is the default option.’

For the less stock market-oriented parent, there are cash accounts, which carry no charge but will not offer potential for growth in the same way that shares accounts do. Ethical and Shariah-compliant accounts are also available, although of the 56 providers listed by the government, only five ethical accounts were listed and Shariah-compliant CTFs were only offered by The Children’s Mutual.

New developments
The Sheffield Mutual Friendly Society has recently launched a stakeholder account, which again invests in the L&G UK index-tracking fund. Because the firm is too small to embark on a big marketing campaign, the company is planning to rely largely on revenue-allocated accounts (RAAs), which Andrew Townsley, chief executive, says still make up the vast majority of the market.

The fund is expected to attract £3 million to £5 million a year. ‘That is fairly small, but we are a small society, so that will be about right,’ he says. Townsley acknowledges that ‘just a little bit extra than the original voucher tends to be contributed to the account. It is normally less than ten per cent in those cases, but where a positive investment decision has been made, much more tends to be added.’

He is optimistic that parents will not be put off by the current market environment, but consider the long-term benefits of investing in the stock market. ‘There is plenty of room
for growth, particularly if it is a long-term investment, and the crisis that exists now will resolve itself – it is just a question of when.’

However, Townsley is less optimistic about CTFs becoming the universal scheme dreamt of by the government and a number of his counterparts within the industry. ‘I doubt we’ll get to the stage where everybody is putting additional money into them,’ he says. ‘Some will take advantage, but most will not.’

The moment of truth
One area that all three agree on, however, is the potential for problems when the children finally hit 18. The young adult, as they will be by then, will have full control over the money, having been able to manage it since they were 16. CTFs will automatically be converted into ISAs at this point, but the child will have full access to the funds and will be under no obligation to keep the ISA running or make further contributions to it.

In most cases, this will be a positive step towards adulthood, the teenagers taking responsibility for their own finances, in many cases for the first time. In some cases, however, it is likely that the child will not even be aware of the account’s existence.
But Townsley strikes a note of caution about the children who do know about the money, and don’t plan to use it in the way it was intended. ‘There is no parental control, and people don’t know how children will turn out, so I do wonder what the majority will be used for.’

Benning also acknowledges the downside that potentially bad decisions could be made by the child when they receive the money. However, Tony Vine-Lott is more optimistic. ‘Some people are not happy about the fact that the kids have the money at the end, but the advantage of a CTF is that it can’t be siphoned off by the parents. That is very important. And hopefully financial education will be provided in the meantime.’