Jenny Lowe reviews the progress of Child Trust Funds and suggests a sound investment strategy for the years before they mature into ISAs.

It is encouraging to see that, despite the current testing economic times, parents are still putting money aside to provide for their children’s future.

Since their introduction in 2005 by the Labour government, more than four million Child Trust Fund (CTF) accounts have been opened in the UK, and nearly one million are regularly topped up via monthly direct debits by parents and family members.

David White, chief executive of The Children’s Mutual, explains, ‘The CTF was introduced to give every child a tangible financial asset when they reach 18. And recent financial history illustrates that saving over the long term can be far more robust than many people may think, making it undeniably important to individuals and the country alike.

‘On the fourth anniversary of the CTF going live, we are urging families with younger children to ensure they have plans in place to help tackle the cost of the future and to consider saving regularly over the long term.’

A universal investment
Under the CTF scheme, every child born after 1 September 2002 receives a voucher worth £250 (£500 for low-income families) for their parents to invest on their behalf. Parents have a year to open a CTF account, but if they don’t, the government will automatically open an account for the child.

The idea is that, as the child grows up, parents, relatives and friends of the family top up the account by up to £1,200 per year, tax free, through either regular monthly direct debits or lump sum payments that they receive on occasions such as birthdays. Account holders then receive a further £250 (again, £500 for low-income families) to add to the account on their child’s seventh birthday.

‘The most important thing when it comes to the CTF account is to make sure you add to it,’ stresses Ian Benning, investment adviser at The Share Centre. ‘By investing in a Child Trust Fund, you are taking the step towards providing your child with a pot of money when they reach the age of 18. But if you only invest the vouchers and don’t top the account up with extra throughout the term, that pot will not be very substantial and probably won’t make much of a difference to your child’s future.’

Having an impact
According to The Children’s Mutual, engagement with the CTF remains strong despite current testing economic times. Figures from the provider reveal that before the CTF was introduced, just one in five children had a long-term savings account. Now, nearly 50 per cent of families who actively place their child’s CTF voucher with a CTF provider set up a direct debit when they open the account. And with many more families now having more than one CTF-eligible child, top-up levels among The Children’s Mutual’s customers are remaining consistent.

‘We are encouraged that the increase in the number of families with more than one CTF-eligible child hasn’t impacted on top-up levels. In real terms, this means that the level of commitment by parents is increasing all the time,’ enthuses White. ‘We believe the CTF is changing the nation’s savings habits for the better, and in recessionary times, this is very positive news indeed.’

When it comes to opening a CTF account, parents are faced with three options. The least risky is, of course, the savings account, whereby the voucher, and any future top-ups, are held in cash. This is an option that around 20 per cent of parents have chosen since the accounts were introduced. Then there are the stakeholder and non-stakeholder options, both of which are stock market based.

Venturing into the stock market
The stakeholder account must meet certain criteria set out by the government – a minimum investment of £10 per month, no initial charge and all other charges must be capped at 1.5 per cent per year. The account must also invest in broadly based funds so that the level of risk is spread out.

This option is also subject to something called ‘lifestyling’ – a further measure of risk reduction that sees the account gradually become less exposed to risk as the child gets older and closer to the end of the investment term.

And finally, there is the non-stakeholder option, which is ideal for those who want greater investment freedom. However, because the choice of funds available is considerably wider, it is essential that parents do a considerable amount of research into which of the funds are best suited to their needs, and also how total charges will work out. The need for research is even greater if you opt for a self-select arrangement, where you are deciding which investments will go into your child’s CTF.

As well as the annual charge of 1.5 per cent, providers of the non-stakeholder account can charge an initial fee – which can be up to five per cent.

Taking the initiative
However, according to the latest Child Trust Fund statistics from HM Revenue & Customs, about 25 per cent of parents who receive CTF vouchers don’t seem to get around to opening accounts with them – a figure that jumps to 55 per cent among
low-income families.

This could be because the parents simply forgot or, as an increasing number in the industry believe, it could be down to a lack of knowledge about what to do next.
This money isn’t wasted because, after 12 months, the government automatically invests the voucher, but the fact remains that the child is unlikely to be having additional contributions made.

Furthermore, by simply relying on the government’s choice of account, parents are not taking advantage of the growing competition between Child Trust Fund providers, so may not be getting the best returns.

‘This lack of awareness is a lost opportunity for low-income children,’ points out Engage Mutual’s child trust fund spokesman, Karl Elliott. ‘Without regular top-ups from parents, grandparents and other givers, the final savings pot will be a fraction of what might have been achieved.’

Scrapping the paperwork
As a way of making the process much simpler, and hopefully eradicating the risk of the vouchers getting lost or stuffed in a draw and forgotten about, the government is introducing a ‘voucherless system’.

This system represents a key change in the application process, as parents will no longer need to supply a paper CTF voucher in order to open an account, provided that the company they choose to invest their child’s CTF money with has agreed to update to
a voucherless system.

According to The Children’s Mutual, the move to a voucherless process could increase the number of actively placed CTFs by as much as ten per cent, and they introduced the system as part of their own CTF processes from Monday 6 April.

David White confirms, ‘The move to voucherless account opening is something we have long lobbied for. It will make the fund-opening process easier still and encourage even more parents to get involved. Any steps to encourage a greater take-up of the CTF should be welcomed so that we can build on the progress already achieved in the past four years in cultivating a generation and nation of savers.’

Every little helps
The annual Cost of a Child survey, released by insurance and investment group LV=, has revealed that parents could spend £193,772 on raising a child from birth to the age of 21, which equates to nearly £10,000 a year.

The survey – which shows that the cost of raising a child has increased by four per cent since 2007, and is up 38 per cent since the survey began in 2003 – illustrates that parents are now spending the equivalent of £9,227 a year, £769 a month or £25 a day on each child.

Childcare is the biggest cost, accounting for a massive £53,818 of the total, closely followed by education; according to the survey, school and university cost £50,240 on average. The next biggest costs are food, at £17,205, and clothing, at £13,281.

But figures from The Children’s Mutual reveal that families who are able to save £100 a month over 18 years into a CTF account could see their child benefiting from a £37,000 nest egg when they reach 18.

Uninspiring returns
When it comes to saving for children, parents are understandably cautious and don’t really want to lose money.

However, since their launch, CTF accounts haven’t performed all that well. The top ten stakeholder accounts have all produced a loss, and the top five cash accounts show only a minimal gain.

But parents should not be put off taking advantage of the CTF scheme. After all, there will be few investors who are currently better off than they were before the global financial turmoil set in. And secondly, parents must remember that the investments they are making today are for the long term and will remain invested until their child turns 18, so they shouldn’t panic about how bad things are at the moment.

The Share Centre’s Ian Benning recommends that ‘Parents should spend some time going through the options to decide which route would suit both them and their child.
It is also important that they bear in mind the fact that the stock market is likely to rise again, and drip-feeding monthly payments will mean that they will be buying more when prices are low.’

Looking to the future
In 2020, Britain’s first batch of babies and toddlers with CTFs will start to turn 18 and have unfettered access to the pot of cash that has been invested for them. Some will have a relatively small investment – the basic sums provided by the government plus the accrued growth.

But others, whose parents and extended family have contributed over the years, will have quite a lot.

The question facing many parents, however, is whether their child will simply blow their funds on endless parties or use it to help plan their future, perhaps pay for an education or put it towards a business venture.

But a study carried out by The Children’s Mutual into the potential spending habits of a child if they were given £20,000 at the age of 18 shows that parents really needn’t worry that much.

Being unable to buy a first home or pursue higher education featured most prominently in parental anxieties about their children’s futures. There were also deep concerns about their ability to get a ‘good job’ and more general worries about their future quality of life.

However, most of the survey participants felt that they would have used the money for a combination of saving, spending, funding university or a deposit on a home. They also felt that if they had grown up as part of the Trust Fund generation they might have become more financially responsible, knowing that there was a sizeable sum of money in store when they reached the age of 18.

Of course, when the CTF matures, the child also has the option of rolling it into an individual savings account (ISA) and continuing to enjoy tax-free savings and investments before putting it to use later on in life – perhaps to pay off university debt or to use as a deposit on a home.

This added benefit was introduced by the government in 2008 and allows the 18-year-old to continue to grow their fund and increase their contributions by up to £7,200 each tax year.