The rapper Biggie Smalls once worried about “mo’ money, mo’ problems” — and the same sentiment applies when investing for children. When little Johnny hits 18, will your hard-earned cash end up financing boozy holidays to Faliraki? Pensions for children are one solution to this dilemma. The introduction of stakeholder pensions in 2001 made it possible to put aside for retirement from birth. Stakeholders have no lower age limit and contributions carry basic-rate tax relief.

A child can receive gifts into a pension of up to £3,600 a year, but relatives and friends need pay only £2,808 of that because Revenue & Customs will make up the remaining £792.

But why put money into an arrangement that will not pay out for at least another 50 years? Other options, such as Isas and Child Trust Funds (CTFs), can be accessed when a child reaches 18.

That is exactly the point, says Adrian Boulding, director of strategy at Legal & General (L&G), the insurer. He says: “The CTF could turn out to be the child’s motorbike fund, but donations to a pension fund will escape this fate.”

Mr Boulding believes that pensions are a suitable choice for both high earners and those on more modest incomes. At the top end of the scale, relatives and friends are likely to contribute the maximum amount and a pension can make “a smashing christening present”. Meanwhile, Mr Boulding advises more modest earners to contribute little and often.

Grandparents may also want to put aside money for a child’s pension. Recent figures from L&G suggest that contributions of £100 a month from birth to age 18 would produce a fund of £139,000 after 47 years. Michael Kellerher of Edward Jones, the investment broker, says that grandparents need disposable income and should understand that a pension will not be a good gift in the short term. He says: “Your grandchildren are unlikely to thank you at 25 and will probably not realise the benefit for at least 55 years.”

Julian Webb, an executive director at Fidelity International, the investment manager, emphasises the potential to minimise inheritance tax. “Grandparents can pay into the pension to reduce their estate as long as it is regarded as normal expenditure by HMRC,” he says.

Mr Webb also highlights the opportunity for adventurous investment because of the long lifespan of pensions and the ability to stop, start or reduce payments without any penalty charges.

Children’s pensions remain a niche proposition, accounting for about 2 per cent of the UK stakeholder market, but the numbers are likely to grow. Ian Martin, head of pensions and retirement income at HSBC, the bank, says that he expects the number of children’s pensions to double or even triple over the next five years. But he adds: “Many individuals are challenged to save for themselves, let alone their children.”

For a child’s stakeholder pension to be meaningful, Mr Martin says that the minimum contribution should be about £50 a month. The average across HSBC arrangements for under-18s is £100 a month.

With Britain in the middle of a retirement savings crisis, it seems clear that investing even a small amount could help to set your child on the right track. If you do not want to see your money speeding down the local bypass or used to purchase a designer wardrobe, a pension could be the answer.

CASE STUDY

Vanya Sugars, of Bushey Heath, Hertfordshire, has paid her two children’s child benefit into stakeholder pensions with Virgin Money since they were born.

The former IT consultant, pictured with Hanna, 3, and Eve, 16 months, pays in about £55 a month each (£71 with tax relief) and plans to continue until the children are 18. Even if the younger child chooses not to save after that point, her fund could be worth £71,800 at 65, assuming inflation of 2.5 per cent.

Saving for short and medium-term goals, such as paying for the children’s education, is taken care of by Ms Sugars’ partner, leaving her to deal with their pensions.

“It is a better way of using child benefit than letting it get subsumed into day-to-day expenses,” she says. “When you go to work at 21, starting a pension fills you with dread. This head start will encourage the children to save.”

Pension action plan

Investment performance can make a big difference. If you invest the full child benefit every month from birth to age 16, the pension fund could be worth almost £100,000 in today’s money at age 60, assuming annual growth of 7 per cent.

For more on pensions visit www.timesonline.co.uk/pensions

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