How to build a £1 million pension pot for your child

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published 8 March 2023

Saving into a pension for your child from when they’re a newborn baby until age 18, while taking advantage of generous tax breaks, could turn them into a pension millionaire.

Research by the investment platform Bestinvest shows that squirreling cash away for a son or daughter into a junior self-invested personal pension (Sipp) could transform into a £1 million pension pot by the time they reach age 63.

According to Jason Hollands, managing director of Bestinvest, when it comes to giving a child a financial head-start in life, many parents and grandparents think about junior ISAs, and tend to overlook pensions.

He notes: “It may seem odd to put money aside for the future retirement of a child that they won’t be able to access for decades, but the powerful combination of time, tax relief and compound growth means it could be one of the best financial gifts you make – enabling them to live their lives knowing their retirement is substantially sorted.”

If you’d prefer to save into an account that your child could use at a younger age, such as to help pay for university or college, or towards a deposit on a first home, Bestinvest has also crunched the figures to show how regular saving into a junior ISA could create a cool £100,000 by the time the child celebrates their 18th birthday.

We explain how the figures add up to make your child a pension millionaire - and how to create a £100,000 junior ISA - plus how junior ISAs and child pensions work.

How to make your child a pension millionaire

Bestinvest did the maths to show how a parent, guardian or grandparent contributing the maximum pension allowance for a child each year from age zero to 18 can build up a seven-figure pension pot.

Up to £2,880 can be contributed to a pension each tax year for a child. Even though few children pay income tax, they still benefit from tax relief, which is worth up to £720 a year.

So, if you pay the full £2,880 into a child’s pension, such as a junior Sipp, then with tax relief added on top, a total gross amount of £3,600 can be put aside each year.

Over 18 years, this adds up to a £64,900 contribution including the tax relief.

If we assume a 5% compound annual growth rate net of costs, then after 18 years the pension would be worth £107,619.

At this stage, you could leave the pension pot and not contribute another penny to it. However, the pension pot would continue to get bigger, thanks to the wonders of compound growth. (Einstein famously called compound interest the “eighth wonder of the world”; it basically means interest earned on top of interest, and a pot of money growing even though you don’t put any more into it.)

By the time the “child” is in their late 40s, the nest egg would be worth £500,000, assuming the 5% annual growth continues.

And by age 63, the pension pot would have passed the £1 million milestone, and snowballed into a whopping £1,016,304.

“A £1 million pension pot for a cash cost of £51,840 (spread across 18 years) is pretty impressive,” comments Hollands.

Pensions can currently be accessed from age 55, although this will rise to 57 in 2028, and will likely rise again.

How to build a £100,000 junior ISA

To create a £100,000 junior ISA (JISA) by the time your child reaches adulthood, a family could contribute £287 a month over 18 years.

Assuming it was a stocks and shares junior ISA, and a 5% annual growth rate was achieved, parents, grandparents, relatives and/or friends could pay in a total of £287 a month over 18 years (£61,922 in total) to generate a pot valued at £100,221.

Alternatively, if an annual lump sum investment is preferred, a £3,350 contribution every year until the child reaches their 18th birthday would produce a pot worth £100,146. This is based on a total contribution of £60,300 - the rest is generated by investment returns.

This means families don’t need to pay in the maximum JISA allowance of £9,000 a year to build up a decent pot of money. By investing just over a third of the annual allowance each year, the teenager could still amass a six-figure sum, giving them a brilliant start to adulthood, with a financial war chest to spend on a well-earned holiday after exams, driving lessons and maybe a first car, further education, and/or a deposit on a first home.

Myron Jobson, senior personal finance analyst at the investment platform Interactive Investor, notes: “The junior ISA allowance stands at a generous £9,000 for each tax year but, in reality, few are fortunate enough to maximise the allowance. But even modest investments that are given ample time to grow and benefit from compounding can yield impressive returns that could give your child a financial leg up when they reach adulthood.”

How do junior ISAs work?

Like adult ISAs, there are two types of JISA: cash, and stocks and shares. Only a parent or legal guardian can open a junior ISA, but once open anyone can contribute to it.

As mentioned, the annual allowance is £9,000, so for example, you could contribute £2,000 to a cash junior ISA, while up to £7,000 is paid into a stocks and shares account. For young children, a junior stocks and shares ISA is often the best choice, because shares almost always beat cash over long time periods.

Jobson explains: “While stock markets can be volatile on a day-to-day basis, a glance at history shows they have a knack of delivering inflation-beating returns over long periods of time. There are no guarantees in life – and that is something long-term investors need to be comfortable with.”

The £9,000 allowance each tax year is in addition to the £20,000 limit that adults have for their ISAs.

The cash inside the junior ISA belongs to the child and cannot be withdrawn until they reach age 18 - although teenagers can take control of the account from 16 years of age.

How do child pensions work?

Child pensions, also known as junior Sipps, are similar to a junior ISA in that only a parent or legal guardian can set one up, but anyone can contribute to it.

The parent manages the pension account until the child turns 18, at which point control passes automatically to the child. The most you can contribute each tax year is £2,880. The government adds £720 basic-rate tax relief (20%) on top, taking the total to £3,600.

Like all pensions, the cash is locked away until later in life: this is currently age 55, but will rise to 57 in 2028.

Several online investment platforms offer junior Sipps, such as Fidelity, Hargreaves Lansdown, Bestinvest and AJ Bell.

Always check the fees and that you’re happy with the investment choice before signing up to a junior Sipp or junior ISA.

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Ruth Emery is contributing editor at The Money Edit. Ruth is passionate about helping people feel more confident about their finances. She was previously editor of Times Money Mentor, and prior to that was deputy Money editor at The Sunday Times. A multi-award winning journalist, Ruth started her career on a pensions magazine at the FT Group, and has also worked at Money Observer and Money Advice Service. Outside of work, she is a mum to two young children, a magistrate and an NHS volunteer.