A trust or investment bond is a tax effective and flexible way for parents and grandparents to save and invest for the future needs for children or grandchildren, such as education, a first home or other life milestones, such as a wedding.
An investment bond, also known as an insurance bond, is an investment solution offered by specific companies where an investor’s money is pooled and invested according to the investment option chosen.
A trust, on the other hand, is a legal structure that holds and manages assets for the benefit of the beneficiaries. It can be flexible and tailored to specific family needs.
Trusts offer more control and flexibility, while investment bonds provide certain tax advantages and simplicity in investment management.
Both have their unique features and benefits and whether one is better than the other depends on each family’s circumstances. A combination of both may be appropriate depending on the circumstances of the family.
Tax considerations
Both investment vehicles can be tax effective. Insurance bonds are particularly tax effective especially for those on a high personal marginal tax rate. This is because insurance bonds are ‘tax paid’ investments and their earnings are taxed at the company tax rate of 30 per cent during the lifetime of the bond. This means the parent or grandparent does not need to declare the investment bond income in their personal tax returns.
In addition, insurance bonds can be withdrawn tax-free after ten years. The investor just needs to be careful of the ‘125 per cent rule’, whereby they may add further contributions to the bond without resetting the ten-year period provided this does not exceed 125 per cent of the amount contributed in the prior year.
Trusts on the other hand may offer income-splitting opportunities, potentially lowering the overall tax burden on taxpayers.
How much is needed?
The initial amount to start with depends on individual financial capacity and personal goals. The end-investment goal should align with the intended purpose, whether it’s funding education, a home purchase, or other life events. Setting a clear goal and working with a financial advisor can help determine an appropriate target amount and making sure the returns after fees and taxes meets the intended goals.
The age at which the investment matures should be based on the specific financial goals for the child or grandchild. It could coincide with major life events, such as starting university or purchasing a first home. Longer investment horizons provide more growth potential. For investment bonds, in order to achieve the tax-free outcome for withdrawals, this requires a ten-year investment horizon.
Investment maturation age should be carefully chosen to ensure the funds are available when needed. Flexibility is also important, as circumstances can change over time, so it’s essential to periodically review and adjust the maturity date as necessary.
Once a decision is made, the investment portfolios of both trusts and investment bonds should be regularly reviewed and assessed as to whether it aligns with the financial goals of a child or grandchild.