Published at 14:07, Friday, 08 June 2012

I am sure we would all like to think that we have done all we can to contribute to the financial futures of our children. Although a child’s retirement is probably the furthest thing from most parents’ minds, starting pensions early can have a dramatic effect.

Starting a pension pot at birth or soon after dramatically increases the size of the potential pension fund, and therefore, potential retirement income.

By using pension arrangements, tax relief is available at source and turns £80 saved into £100 instantly. Although the term required to do this is potentially a long one – your children would need to reach 55 to be able to benefit from the funds – the benefits could be enormous.

Thanks to the effects of compound interest, tax relief on contributions and tax-efficient growth, the potential exists to provide your child with a pension pot of life-changing proportions. The earlier you start, the more tangible the effect.

You can contribute a maximum of £2,880 into a personal pension for a child each tax year, which will be boosted by a further £720 in tax relief, raising the amount invested to £3,600. The investments then grow free from income and capital gains taxes.

Assuming investment growth of six per cent per annum (after charges), you would need to make this contribution for the first 18 years of the child’s life to generate a £1.8m pension pot at age 65. Your actual outlay over that period would total £51,840, with £12,960 added in tax relief. (Source: Aviva)

After taking inflation into account (at an assumed 2.5 per cent per annum), a £1.8m pension pot would be worth about £356,000 in today’s terms – enough to buy an index-linked annuity of about £15,500 a year. (Source: Aviva) So, what would be the impact of a delay? If, instead of starting the pension at birth, your child starts contributing once he or she begins work, saving the same £3,600 every year from the age of 25 to 65, using the same assumptions as above, they would end up with a pension pot worth only £590,600 before taking inflation into account, rather than £1.8m, despite them saving for 40 years as opposed to 18.

Those early contributions could pretty much relieve your children of the sort of retirement worries that a concern many people today. Pensions do not have to be of exclusive interest to those later in life; you can have one from birth if you have parents or grandparents who set one up.

Until relatively recently, many employees could often count on generous final salary pensions, as well as grant-supported university education. Today’s children are increasingly more likely to carry the burden of further education debts and access to far less beneficial defined-contribution workplace pensions.

As people are generally living longer, an adequate retirement income becomes even more important. As a result of repaying student loans and struggling to get a foothold on today’s property ladder, it may be far more difficult to make pension contributions in future, so a pension started at birth can help to redress the balance.

But remember, investment values can fall as well as rise and you may get back less than you invest.

For independent financial advice email moneymatters @armstrongwatson.co.uk or call Armstrong Watson on freephone 0800 1952161.

Published by http://www.cumberlandnews.co.uk