Alison Swersky investigates the options for parents who want to build up their child’s nest egg in the safety of a cash account.

As governments worldwide scramble to prevent the global economy from seizing up, spare a thought for the children who stand to inherit a legacy of recklessness and greed.

The years of credit-fuelled excess that hit UK Plc with the force and stealth of the iceberg that sunk the Titanic will (hopefully) be as remote and inconceivable as Enid Blyton’s ‘Magic Faraway Tree’ by the time the little nippers join the workforce. In addition, they will be forced to pick up the tab to pay back the billions of pounds spent on rescuing our ailing banks.

Starting early
Therefore, today’s youth need more than ever to understand the cost of living and
to appreciate that money really doesn’t grow on trees, or in their parents’ pockets. And, in fact, according to the Personal Finance Education Group (PFEG), many youngsters do seem to have grasped the importance of saving.

Out of more than 1,000 seven- to 11-year-olds interviewed in 2007, three-quarters said they were already putting money away for their future.

Exciting young minds
To encourage saving from a young age, many building societies and banks offer incentives, from sticker books and piggy banks to discounts on cinema tickets and mobile phones, depending on the age group targeted.

Chelsea Building Society even offers young rugby fans two free tickets to Twickenham
to watch the next Emirates Airline London Sevens tournament when opening an England Rugby Mini Saver account.

Some financial advisers dismiss these as gimmicks used simply to attract customers,
and warn that parents should be more concerned with the interest rate the account is paying. But Dennis Hall, a chartered financial planner at Yellowtail Financial Planning, based in London, takes a different view. ‘If you are trying to instil a savings mentality then it is less about the rate the account is paying and more about encouraging good habits,’ he argues.

This rings particularly true for The Co-operative Bank. It pays just 0.12 per cent on its Bonus account – miserly even in this historically low interest rate environment. But it offers a £2 bonus per year up to the age of 12 and then £10 a year from ages 13 to 18 if an average balance of £50  is maintained. This is in addition to various gifts, including a calculator at age 11.

Sporting choice
Other accounts align themselves with charities, local organisations and even sports teams to appeal to young savers. The Britannia Building Society, which is imminently to become part of Co-operative Financial Services subject to a members’ vote, offers a host of children’s deposit accounts affiliated with various football clubs from Tottenham Hotspur to Bristol City. These offer embossed passbooks and discounts on merchandise.

Some accounts will even pay part of the interest to the sports club or charity to which they are affiliated. For instance, the Skipton will pay 0.5 per cent of the balance of each Young Greens Investment account to Plymouth Argyle FC annually. This means
that the gross AER will not be 1.8 per cent as is the headline rate, but 1.3 per cent – something to be aware of when choosing an account with a commercial relationship.

Slim pickings
Free gifts and cute names aside, when picking an account to save for something in particular, such as a school skiing trip, it is important to pick an account paying the most interest.

This can be a depressing process at the moment, with the base rate practically zero, but there are still a few decent accounts out there. Halifax is currently offering the market-leading account, paying eight per cent on its Children’s Regular Saver one-year bond. To access this attractive rate, a minimum deposit of £10 is required every month for 12 months, and the money is locked away for a year. Investing the maximum of £100 every month would earn £52 in interest, according to research consultant Defaqto. The account must be held in the name of the parent on behalf of the child.

After that, the landscape for children’s cash accounts becomes pretty grim, but many still offer a better rate than a typical savings account. In addition, there are the tax benefits to consider as long as the child is not earning above the personal allowance.

Grossing up
‘Make sure you ask for an R85 form when opening a children’s savings account to get the interest accrued gross,’ says Meera Patel, senior analyst at Hargreaves Lansdown. The best deals are available for those prepared to lock their money away for up to five years. NatWest has a five-year bond paying 5.5 per cent but it requires a £1,000 deposit and is only available to existing customers.

Meanwhile, the Cheshire Building Society, which is now part of the Nationwide, has this year launched the latest four-year deal in its Black Cat series at 3.25 per cent on a minimum deposit of £500. It offers one penalty-free withdrawal of up to two per cent of the original investment. Clydesdale and Yorkshire Bank offer similar deals but only require £1 to open the account.

But financial advisers warn against locking your money into a cash account for longer than two to three years, being more worried about a return to rising inflation that will erode the value of the deposit.

Rising inflation
There are already signs that inflation is creeping back. The Consumer Prices Index (CPI), which measures the cost of goods but excludes mortgage repayments, rose unexpectedly in February to an annual rate of 3.2 per cent. The Office for National Statistics said the rising price of imported goods, particularly food, helped to push up the inflation measure.

But Peter McGahan at Cornwall-based IFA Worldwide Financial Planning says there is other evidence too, including a pick-up in merger activity and signs that the stock market has priced in a lot of the bad news.

In addition, he believes quantitative easing – the process whereby the Bank of England is expanding the amount of money in the financial system – will eventually work, resuscitating the crippled British economy.

He says, ‘The Bank of England will continue to write new money until banks start to lend again. When that happens, we are likely to see an increase in inflation, which will need to be controlled by raising interest rates. I estimate that the first signs of the impact of quantitative easing will start to come through in the next six months or so. Therefore, you don’t want to be locked into a five-year deal priced on today’s market.’

Assessing the risks
For those with a time horizon of 18 years, which would include parents of children born after 2002 and eligible to open a Child Trust Fund (CTF) with a £250 voucher from the government (see page 68), cash savings accounts are generally not recommended. This is because history shows that you are much more likely to make more money from an investment with exposure to the stock and bond markets over that amount of time.

But if you are not comfortable with the risk of this strategy, McGahan suggests choosing a CTF cash account provider with a strong track record for offering consistently good rates of return, rather than the one that happens to top the ‘best buy’ table at this particular time.

These include the CTF offered by Hanley Economic, which has added £55.32 of interest to the original voucher investment of £250 over a three-year period to March, and the Yorkshire Building Society, which has added £47.26 over the same time period.

Most of the time though, IFAs suggest cash accounts should be used to park money that’s going to be needed in the very short term, so Dennis Hall recommends those that offer instant access, allow flexible withdrawals and have branches that are local to the saver for convenience. For this reason, he tends to stick with the bigger players, such as Abbey and Alliance & Leicester, which are now both owned by Santander.

A better rate of return is, however, more likely to be found with the smaller building societies, such as the Chorley & District, which has an instant-access account at 2.2 per cent for children of any age, and the Newbury Building Society, which offers the Young Saver account at a similar rate until the child turns 15.