Pension
While it might seem unusual to think about retirement when your child is just starting out in life, early pension contributions offer significant benefits. They provide a financial head start and take advantage of the power of compound returns—a force that can substantially grow their wealth over time.
How Much Can I Contribute to My Child’s Pension?
You can contribute up to £3,600 gross per year, which means you pay in £2,880, and the government tops it up with £720 in tax relief. This tax relief is available from birth, so the earlier you start, the more time your child's investment has to grow through the power of compounding interest.
The Power of Compound Returns
Starting early with pension contributions allows your child’s investments to benefit from compound returns. Compounding is the process of earning returns on the returns your investments have already generated. This snowball effect can create substantial growth over the long term, especially in a tax-advantaged environment like a pension.
Let’s illustrate this with some examples:
- Iris’s parents decide to invest £2,880 a year (which, with government top-up, totals £3,600) into her pension from the age of 1.
- Finley’s parents choose to start the same annual contributions when he is 10 years old.
- Lyla decides to invest £3,600 into her pension when she turns 22 (which is the mandatory age for pension auto-enrolment).
Assuming a 7% annual return on investment until they all retire at 67, the outcomes are vastly different:
- Iris’s pension at 67: £313,063
- Finley’s pension at 67: £170,285
- Lyla’s pension at 67: £75,608
These numbers highlight how starting early can make a significant difference in the value of your child’s pension pot at retirement. The earlier you start, the more time compounding has to work its magic.
The Impact of Investment Growth
The rate at which your investments grow is also crucial. Even small differences in annual returns can lead to vastly different outcomes over time. For example, let’s take the case of Iris, whose parents invested £3,600 gross at age 1:
- 3% compound return: £25,325
- 5% compound return: £90,114
- 8% compound return: £578,456
- 9% compound return: £1,062,799
As you can see, the growth rate of your investments can dramatically affect the final amount. This underscores the importance of making informed investment decisions, with the help of a financial planner who can guide you towards higher-performing investment options.
Continuous Contributions and Tax Relief
There’s also nothing stopping you or your child from making regular contributions to the pension over the years. Each contribution benefits from tax relief, effectively giving you more money to invest and grow. This ongoing commitment, combined with the power of compound returns, can build a substantial pension pot over time.
Help Is at Hand
Whether you're planning for your child's future or considering your own retirement, Financial Planning by TaxAssist is here to help. Our experienced Independent Financial Planners can guide you through the process of setting up a pension for your child, ensuring that their financial future is secure. We’re dedicated to helping you achieve the retirement you want, no matter your age or when you start saving.
Speak with one of our Financial Planners today by calling 0330 441 2244 or emailing [email protected].
The value of investments and any income from them can fall as well as rise, and you may not get back the original amount invested. HM Revenue and Customs practice and the law relating to taxation are complex and subject to individual circumstances and changes which cannot be foreseen.