When you have a new grandchild, you naturally think about their future. If you want to provide a financial head start for your grandchildren, then an Investment Bond is the ideal vehicle.
An Investment Bond is a tax-effective investment plan offered by a life insurance company or friendly society that offers managed fund investments.
Advantages include:
- This is a ‘tax-paid’ investment, with a nominal 30% tax-paid rate. This means you would not need to include details of the investment, or include earnings, in your annual tax return until a withdrawal is made.
- Earnings become fully tax-paid after 10 years. This means that the investment can be withdrawn at any time after 10 years and the proceeds will be tax-free, provided that the ‘125% rule’ has not been breached.
- If any withdrawals are made prior to 10 years, a 30% tax offset can be applied against any personal tax on income or gains.
- There is no stamp duty payable when the bond is transferred to the nominated child.
- The age that you wish to transfer the investment to the designated child is nominated at application and can usually be anywhere between age 10 and 25.
What is the 125% rule?
If the sum invested in a year is less than or equal to 125% of the previous year’s contributions, the investment can be withdrawn tax-free after 10 years. If the additional investment is in excess of 125% of the previous year’s investments, the 10-year tax-paid period will recommence.
Case Study
When my Grandchildren each turned two, I set them up with an Investment Bond with $1,000 initial investment and $150 per month thereafter. The investments I selected were 50% in an Australian Share Index fund and 50% in an International Share index fund. My eldest grandchild’s Bond has now been running for 5 years. In that time, I have invested a total of $11,800 for her, however, the investment is worth $15,529 – a 31% return on investment over 5 years.
This style of investing takes advantage of two of the pillars of wealth accumulation – dollar cost averaging and compound interest:
By investing a set amount each month (dollar cost averaging) the portfolio has outperformed the market in that time, as I have averaged down the cost of purchase.
Compounding is simply the ability of money to grow exponentially over time by the repeated addition of earnings to the original principal invested.
I set the benefit payment date for when each child turns 18. Regardless of whether I am still here or not, the child will receive the accumulated funds and earnings at age 18, completely tax-free. While I intend for them to use the funds for their University education, it could just as easily fund overseas travel or a house deposit. I really like knowing that I have contributed to my grandchildren’s financial start in life.
Summary
Investment bonds are a great vehicle for savings funds for children or grandchildren where the timeframe is more than 10 years. Suggested uses could include:
- Savings to assist a child with a house deposit – start when they are a teenager
- Savings to assist children or grandchildren with future private school fees for their high school years
- Savings to assist children or grandchildren with future University costs.
Investment Bonds are an excellent way to build a tax-effective investment for the long term for your loved ones.
If you like this idea and wish to set up an investment bond, please speak to our Wealth Management team today.
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