According to the ASG Planning for Education Index (link here) released in January 2018, the costs of educating your child through the private system could be as high as $475,342. It also estimates that it could cost $66,320 in the public system and around $240,679 under a faith-based education system. These estimates include not only the basic tuition fees but also the hidden supplementary costs such as extracurricular activities, computers, travel expenses, uniforms, school excursions and camps. These figures are eye-watering, to say the least, and are fast becoming one of the largest expenses for the average household.

The bad news? According to the Australian Bureau of Statistics (ABS), the costs have risen by up to 44% in the six years between 2009-10 and 2015-16 with no signs this is slowing down. Private education costs rose by a staggering 61% in the last decade. This certainly outpaces the 34% rise in wage growth during the same period.

The good news? If you start planning for this early you may be able to minimise the financial stress of this unavoidable cost.

We will take a very brief overview of some of the options available to better understand your choices.

When making the decision to invest in your children’s education it is importing to also consider some of the following:

• The purpose fo the investment and investment time horizon


• The acceptable level of risk


• Ongoing taxation of any income derived and any future capital gains tax


• When access to the cash or other assets is intended to occur


• Ownership of the assets

Taxation of income of minors

When investing for a child the tax treatment there are various factors which determine whether the income is taxed in the hands of the minor, the adult investing on the child’s behalf or the trustee of a trust which the minor is a beneficiary. Generally, minors are able to earn $416 as a tax-free amount, tax of 66% on income between $417-$1,307 and a tax rate of 45% (plus Medicare) on income over $1,307. There are special conditions where the income could be treated as excepted income but will not be discussing those circumstances in this article.

Investment Options

Cash-Based Accounts

These can include regular bank accounts, high-interest savings accounts and term deposits. They can be held in the name of either parent or any other adult (assessed as income of the adult at the adult’s marginal tax rate), or an adult as a trustee for the child (again adult tax rates) or the child’s name only (minor tax rates).

Advantages include:

• Secure capital with low investment risk


• Low minimum investment requirements


• Low or nil fees

Disadvantages include:

• Provide no long-term capital growth or hedge against inflation


• No tax concessions

Direct Shares

Another option is to invest in a share portfolio. The shares can be held in the name of the adult (dividends are taxed at adult’s marginal tax rate), where an adult is a trustee for the child (child tax rates may apply). Children usually cannot buy shares in their own name.

Advantages include:

• Higher long-term growth potential than cash-based accounts


• Potentially tax-effective income if the company pays franked dividends (Australian shares only)


• More control over taxation events than managed funds


• Eligible for 50% Capital Gains Discount (CGT)


• May also allow the use of gearing if appropriate

Disadvantages include:

• Potentially less diversification than managed funds


• A higher level of risk than cash-based accounts


• A higher level of investment monitoring than managed funds and other professionally managed options


• CGT implications

Managed Funds

Managed funds are a good alternative to directly held investments such as cash-based accounts and direct shares. They must be held in the name of the adult (earnings a taxable in the adult’s name) or as trustee for the child (child tax rates may apply).

Advantages include:

• Higher long-term growth potential than cash-based investments


• Professional investment management


• Diversification across and within asset classes and across investment managers


• Tax effective dividend income (Australian shares)


• Relatively low minimum investments


• Eligible for 50% Capital Gains Discount


• May also allow the use of gearing if appropriate


• Fees are generally lower than insurance bonds and education bonds

Disadvantages include:

• A higher level of risk than cash-based accounts


• Less investment control and control of taxation events, when compared to directly held investments


• CGT implications

Insurance Bonds

Insurance bonds have very similar advantages and disadvantages to managed funds. The key differences are:

• The bond is purchased in the adult’s name


• There is no access to the 50% CGT discount


• Earnings are taxed in the bond up to a maximum of 30%


• Additional tax may be applied at adult marginal rates if withdrawals are made from the bond prior to the 10 year anniversary


• No additional tax is payable if the bond is held for 10 years or more


• 125% annual contribution limit otherwise certain penalties may apply


• Ownership may be allowed to pass over to a child at a certain age such as 18 or 21

Education Bonds

Like insurance bonds, the returns are taxed up to a maximum of 30%. These bonds may vary from each provider, however, the money is used for education-related expenses this tax may be reversed and flows onto the child and will be taxed as excepted income where the child is under 18. In other circumstances, the proceeds are taxed like an insurance bond.

Education expenses may include:

• Uniforms


• Travel costs


• Fees


• Materials


• Living away from home allowances


• Certain residential boarding expenses

Some funds may keep two separate accounts being capital and earnings account and funds may be returned to the investor if not used educational expenses, however, sometimes penalties may be applied.

Offset Account/Pay Down Mortgage

Rather than using a cash account to invest for your child, you could make additional payments on your mortgage or pay down your home loan to be withdrawn later when required.

Advantages include:

• A risk-free and tax-free investment return equivalent to the home loan interest rate


• Low or nil fees payable

Disadvantages include:

• Requires planning and discipline to make it work (the risk that the funds may be used for other purposes eg home renovations)


• Potentially leaving you with a large debt later on which may affect your retirement plans


• There is no actual return on your investment other than interest savings

Superannuation

In some circumstances, superannuation may be a valid savings option for children, depending on their needs and objectives.

The main advantage associated with this strategy is earnings are taxed at a maximum rate of 15%. All contributions made by parents or the child are usually non-concessional contributions (NCCs) and limited by the NCC cap. Investments can potentially be tax-free if withdrawn after the adult turns 60.

The main disadvantages of super are the risk of adverse legislative changes and that capital cannot be accessed until a condition of release is met. This means that in many cases super will not be an appropriate investment vehicle through which to save for the purpose of helping the child to fund education costs, or purchasing a home.

If you would like to know more, talk to Michael Sik at FinPeak Advisers on 0404 446 766 or 02 8003 6865.

Important information and disclaimer

The information provided in this document is general information only and does not constitute personal advice. It has been prepared without taking into account any of your individual objectives, financial solutions or needs. Before acting on this information you should consider its appropriateness, having regard to your own objectives, financial situation and needs. You should read the relevant Product Disclosure Statements and seek personal advice from a qualified financial adviser. From time to time we may send you informative updates and details of the range of services we can provide. If you no longer want to receive this information please contact our office to opt out.

FinPeak Advisers ABN 20 412 206 738 is a Corporate Authorised Representative No. 1249766 of Aura Wealth Pty Ltd ABN 34 122 486 935 AFSL No. 458254