Many parents want to set up an investment portfolio for their young children, something they can gradually add to over time. The motivations vary: helping with a future home deposit, providing early investment education, or simply giving their child a financial head start.
These portfolios often use ETFs, as they’re accessible, low-cost, and suitable for small, regular contributions. For parents investing a few hundred dollars a month, ETFs offer far more flexibility than larger, lump-sum investments like property.
But what’s the best way to structure these investments?
Tax considerations are a major factor, as is the need to protect the assets in the event of a family breakdown. This article explores the most common ways parents invest in ETF-style portfolios for their minor children, highlighting the key pros and cons of each approach.
Minor Trust Account
Some investment brokers offer the option of holding assets through a minor trust. This is an informal arrangement where the parent acts as trustee and the child is the beneficial owner. Since minors cannot legally own shares, the assets remain in the parent’s name until the child turns 18, at which point they can be transferred.
Unlike a formal family trust, a minor trust doesn’t require legal setup or a trust deed, it’s simply a matter of completing the broker’s application form.
One key requirement is providing a tax file number (TFN). This means the child must have their own TFN, which can be applied for at any time. Using the child’s TFN ensures that all investment income is taxed in their name. This step is critical: if set up correctly, no capital gains tax (CGT) is triggered when the assets are transferred to the child upon reaching adulthood.
Some believe you can quote the parent’s TFN to avoid CGT on transfer. However, this appears to be incorrect. If the parent’s TFN is used, the ATO may treat the assets as being owned by the parent, meaning CGT would apply on transfer – essentially defeating the purpose of the minor trust structure.
Benefits
- No CGT on transfer
The main advantage is that no capital gains tax is payable when the assets are moved into the child’s name at age 18, provided the structure was set up using the child’s TFN from the start. - No impact on the parent’s taxable income
Because income is assessed in the child’s name, it won’t affect the parent’s assessable income. This can help avoid thresholds for Division 293 tax, family tax benefit reductions, or first home grant eligibility.
Disadvantages
- High tax rates for children
Children under 18 pay much higher tax rates on unearned income. This makes investing in a child’s name less tax-effective, even if the parents are on a high income. See below:
With that said, this can be managed by choosing low or no income investments – such as international index funds or listed investment companies that reinvest dividends via bonus shares.
- Limited platform options
Only a handful of brokers offer minor trust accounts. This can limit choice and may result in higher brokerage fees or fewer investment options. - Less control over future access
Turning 18 doesn’t automatically trigger a transfer, but as the beneficial owner, your child may be legally entitled to take control of the portfolio at that point. This reduces the parent’s ability to gradually hand over access as the child matures.
Investing in Parent’s Name
This is the simplest approach. It involves investing funds on behalf of your child in the name of one parent – usually the lower-income earner to reduce tax. To keep things clean, many parents use a dedicated brokerage account solely for the child’s investments, avoiding any mixing with other assets.
Benefits
- Broader choice of brokers
Since you’re investing in your own name, there’s no need to find a provider that supports child-specific accounts. This opens up access to platforms with low or no brokerage fees, better features, or more investment options. - Full control over when funds are handed over
The parent retains legal ownership of the investments. This means they can decide when and how the funds are given to the child: perhaps staggered throughout their 20s or when certain milestones are reached. - Avoid child tax rates
Income and capital gains are taxed at adult marginal rates, which, even at higher incomes, are generally more favourable than the tax rates applied to children. - Option to integrate with debt recycling
Investments held in the parent’s name can be linked to a home loan split, allowing any interest on borrowed funds to be tax-deductible. This can form part of a broader debt recycling strategy. More about debt recycling can be found here.
Disadvantages
- Capital gains tax on transfer
If the parent sells the investments to pass the proceeds to the child, a CGT event is triggered. Even if the assets are gifted or transferred off-market, CGT still applies. - No guarantee of inheritance
As the investments remain in the parent’s name, they form part of the estate upon death. Unless specific provisions are made in the will, the funds may not ultimately go to the intended child.
Investment (Insurance) Bond
Investment bonds are an investment structure offered by life insurance companies. Each provider offers a range of investment options that can be accessed within the bond. They are known as tax-paid investments, meaning no additional tax is payable after holding the bond for 10 years.
This CGT-free outcome is appealing to many parents looking to invest for their children, and advisers often recommend bonds for this purpose. However, investment bonds are also among the most misunderstood financial products, even by those who promote them.
Investment bonds are only CGT-free after 10 years because the bond itself pays tax at a flat rate of 30 per cent each year on both income and capital growth. This rate is higher than the maximum effective CGT rate of 23.5 per cent after applying the general 50 per cent discount. As a result, even for high-income earners with a portfolio where most returns come from growth, bonds are not particularly tax efficient. That does not mean they are without merit in rare circumstances. More information about investment bonds can be found here.
Benefits
- Convenience
As an internally taxed structure, investment bonds do not require tax reporting by the bondholder. Bonds can also be set up with a nominated vesting age between 18 and 25 for the child, although legally, a child may be entitled to access from age 18. - Avoids child tax rates
The bond’s earnings are taxed at a flat 30 per cent. Depending on the amount of income that would otherwise have been taxed at punitive child tax rates, this could represent a tax saving. - Estate planning benefits
Bonds are not dealt with through a will. Instead, the bondholder can nominate a beneficiary directly. This can be particularly useful for split families or grandparents investing for a grandchild.
Disadvantages
- Loss of CGT discount
As the bond is taxed at 30 per cent on all earnings, there is no access to the capital gains discount available when investing outside of a bond. Growth-focused portfolios are therefore less tax efficient inside a bond structure. - Penalties for early withdrawal
Withdrawing before 10 years can see part or all of the bond’s earnings taxed at the bondholder’s marginal tax rate, removing much of the intended tax benefit. - Limits on additional contributions
Additional contributions are limited to 125 per cent of the previous year’s contributions. This can be restrictive for parents who wish to increase their investments over time. - Added fees
Most bonds charge an administration fee of around 0.50% per annum on top of the investment management fees. This can materially impact returns over the long term. - Lack of investment choice
Investment options within bonds are generally more restricted than what is available via a standard brokerage platform. However, they may offer access to some managed funds that are not available directly to retail investors.
Family Trust
A discretionary family trust is arguably the most flexible structure for investing on behalf of a family unit. It allows investment income to be distributed in a tax-effective way across multiple beneficiaries, depending on their individual circumstances each year.
However, a family trust is rarely set up solely for the purpose of investing for a child. The upfront costs and ongoing administrative burden mean it is generally only suitable where a broader investment or family wealth structure is already in place.
For more information on investing through a family trust, read our specific article on the topic.
Conclusion
The most appropriate structure for investing on behalf of a child depends entirely on the individual circumstances.
If one parent is not working, investing in their name could be the most tax-effective option. If both parents are on the top marginal rate, a minor trust may be more suitable. In some cases, such as with blended families or where estate planning is a concern, an investment bond could also be appropriate.
As with any investment decision, managing costs, understanding tax implications, and building a diversified portfolio are key to achieving a positive long-term outcome.
