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Last Updated: Monday, 10 January 2005, 16:08 GMT
Q&A: Child Trust Funds
A family
The Child Trust Fund aims to give youngsters a head start
From next week, the government is to start giving all newborn children as much as 500 in a Child Trust Fund, hoping this will encourage saving. But how does the scheme work and what is it really worth?

Free money sounds too good to be true. What is the big idea?

The Child Trust Fund (CTF) is a radical scheme to encourage savings.

The government will give vouchers of 250, rising to 500 for low income families, to babies born since September 2002.

Every fund may also be topped up by families or friends with extra contributions up to a maximum limit of 1,200 a year.

It is hoped the money, which cannot be accessed until the child is 18 years old, will ultimately help towards expenses such as university costs or for a deposit on a home.

Over the long term a child's savings would almost certainly be best off invested in the stock market because the performance is better

The government has promised that in addition to the initial payment, it will make another payment to children on their seventh birthday.

From next week nearly two million UK families will receive vouchers.

This will be followed each month by the issue of 60,000 vouchers, one for each newborn baby.

How far will the government's money stretch?

It will fall a long way short of funding a university education - particularly when you consider that the average student now leaves university with debts of more than 12,000.

Recent research from Virgin Money has shown that if the full 500 was invested and grew at 7% per year the Child Trust Fund would be worth 1,410 after 18 years.

But the idea is that additional contributions from friends and family will bump up the fund so it can give young people a real head start.

Family and friends will be able to contribute up to 1,200 a year.

Virgin Money have estimated that if parents or grandparents top up the fund to the tune of 10 per month the amount saved would grow to 5,210.

What the Child Trust Fund could be worth*
500 with 5% annual growth would become 1,000 in 18 years
500 with 7% annual growth would become 1,410 in 18 years
500 with 9% annual growth would become 1,970 in 18 years
*Includes a management charge Source: Virgin Money

And if parents paid their weekly child benefit into the fund, the fund would have grown to a substantial 27,000 after 18 years, presuming (an optimistic) 7% annual growth.

Will the taxman be able to claim a slice of the fund?

Any growth achieved by the fund will be tax free.

But those paying into the fund will not receive tax relief on their contributions.

The government has also decided that current rules governing parental gifts to a child will not apply.

These rules mean that where a gift from a parent leads to an income of more than 100 a year, the parent is taxed on that income at their own tax rate.

This removes the incentive for wealthy parents to transfer large amounts of money into their children's names.

Are there limitations on how the Child Trust Fund can be invested?

Yes. Parents looking to open a spread betting account on behalf of their child can forget it.

However, following lobbying from the investment industry, the government has decided that parents can invest in either a deposit savings account or a stock market-based investment.

But any stock market investment will have to be low cost and not too risky.

What parents fail to invest the cash?

Parents that do not invest the government's gift within a year will have it invested for them by the Inland Revenue.

The parent is free to assume responsibility for that account later at any time, if they wish.

The government has finalised its list of firms authorised to offer fund accounts, many will be up and running during the next few weeks.

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