Investing for your kids or grandchildren – Part 1

Co-founder of the Switzer Report
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Key points

  • Minors are subject to special rules when it comes to taxation to discourage adults from splitting their income with their children.
  • Unearned income will be taxed at special rates. With the income on fully franked shares, both the dividend in cash and the imputation credits are included as unearned income.
  • There are special bank accounts for kids that can offer up to 3.73% interest under certain conditions.

With Christmas fast approaching, the idea of investing for your kids or grandchildren may be something you have been considering. While it is unlikely to produce the same “under-the tree” reaction as unwrapping the latest Smartwatch or Elsa Doll, when they’re a young adult, they should have something material to show for your gift. If the gift is shares or an insurance bond, they may also develop an ongoing interest in investing.

In this the first of three feature articles, we will look at taxation issues, including how interest or dividend income earned by a minor is taxed, and applying for a TFN. Then we will road test the bank accounts that are designed for kids. In the second article, we will look at buying shares for minors, and the final article will focus on some of the special investment products – insurance bonds and education funds.


Minors (persons under the age of 18) are subject to special rules when it comes to taxation. The rules are designed to discourage adults from splitting their income and diverting it to their children.

“Unearned” income for a minor, which includes income such as interest on a bank account, dividends from shares, or a trust distribution is taxed at the following special rates:

“Unearned income” doesn’t qualify for the normal tax-free threshold of $18,200.

So for example, if your grandson’s bank account earns $1,000 in interest, then tax of $385 will be payable (0.0 x $416) + (0.66 x $584) = $385.

When it comes to income on fully franked shares, both the dividend in cash and the imputation credits are included as unearned income. Your child or grandchild will also get the benefit of the imputation credits, which are further applied to act as a tax rebate. Putting these together, if we assume an average fully franked dividend yield of 5%, this means that your child/grandchild can have a share portfolio of $10,677 before paying any tax. Under this size, they will be eligible for a refund in cash of all or part of the imputation credits.

Does your child need a TFN?

There is no obligation to provide a Tax File Number (TFN) or exemption to a bank or company. If you don’t, then PAYG tax on interest or unfranked dividends may be deducted.

If you are opening the bank account (or share account) in your name in trust for your child or grandchild, then you should quote your TFN (unless there is a formal trust in which case quote the TFN of the trust). Just because you quote your TFN doesn’t make you liable to pay any tax.

If you are opening the account in your child’s name, most banks will generally accept you nominating the “child under 16” exemption (this doesn’t mean that they won’t pay any tax – it just means that PAYG tax won’t be deducted). If they are 16 or 17 and earn more than $120 in investment income, they should apply for and quote their own TFN.

In fact, a child at any age can apply for and get a TFN – there is no minimum age. A birth certificate or passport, and one other document, such as a school report is all that is required. The ATO also runs a program with secondary schools that makes getting a TFN easy.

Who is liable for the tax on the income?

Notwithstanding whose TFN is quoted, the ATO says that who declares the interest depends on who owns or uses the funds of the account.

The parent (or grandparent) owns the money if they provided the money and they spend it as they like, whether or not they spend it on providing resources for the child. If the parent owns the money, the parent includes the interest in their tax return.

In the case of a bank account, the ATO provides the following examples:

“Wayne opens an account for his son by depositing $5,000. Wayne is a signatory to the account because Jack is two years old. Wayne makes regular deposits and withdrawals to pay for Jack’s pre-school expenses. Interest earned from the account is considered to be Wayne’s.”

On the other hand, if the funds in the account are not “excessive” and are not used by any person other than the child, then the interest earned will be the child’s interest.

“Shauna is aged eight and has a savings account in her name. Shauna’s mother is a signatory to the account. The funds are birthday and Christmas presents from Shauna’s relatives. Interest earned from the account is considered to be Shauna’s.”

Bank accounts

Banks will typically recommend that you open a “bonus interest rate” style account for kids. These accounts are structured to reward regular deposits.

As the following table shows, your child can earn interest at a rate of 3.73% pa provided one deposit is made per month (usually no size requirements), and no withdrawals are made.

Rates and conditions as at 20 November 2014, and subject to change.

Of the majors, NAB currently offers the best rate – a standard interest rate of 1.0%, and a bonus rate of 2.73%, meaning a total rate potential of 3.73%. The Commonwealth’s Youthsaver is the easiest account to open. If you have a login to NetBank and your child has a birth certificate, you can potentially open the account totally online – you don’t need to visit a branch.

Some banks differentiate between under 12’s and over 12’s, allowing the latter to open the account in the child’s name. Most provide an option for the child to be issued with a proprietary debit card like a ‘Keycard’.

As usual, it may pay to shop around to find the account that suits you and your child/grandchild best.

One final tip that came from a very helpful bank staff member. He volunteered that for his 13 year old daughter, he had opened two identical bonus saver accounts – linked together online. The first is used to accumulate the savings and he makes sure a deposit is made each month to get the bonus interest rate. The second is used a bit like a transaction account where small balances are held – and any debits are made. Who said that you can’t get great advice from a banker?

Important: This content has been prepared without taking account of the objectives, financial situation or needs of any particular individual. It does not constitute formal advice. Consider the appropriateness of the information in regards to your circumstances.

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