Investing for your kids is no child’s play. You wish the best for your children – the best of college education and enough to get them started with, when their careers take off. That’s easier said than done. You can, if you start planning early.
Invest in your child’s name
Financial planners say that it’s always better to invest in your children’s name, and then funding your their higher education from it when the time comes. That’s because your child’s investment gets well-directed. “That is the last investment you will liquidate in times of need,” says Gajendra Kothari, founder and managing director, Etica Wealth Management. It also helps you track the progress of those investments.
Bangalore-based Prasad Patole, a 38-year-old IT services professional started a systematic investment plan in equity funds 18 months ago for his six-year-old daughter Krishnapriya. He has started with Rs 5,000 per month and wants to increase his contribution in the future.
“I do not know if my daughter will go for higher education or will become an entrepreneur. Whatever path she chooses, she should have a corpus in her hand,” says Prasad.
Having a father who works in the financial services industry will work well for nine-year-old Aarya Palav, who lives in Dombivli. Her father, Anand Palav, 38, has already started investing in a bouquet of products – mutual funds, public provident fund and sukanya samriddhi yojana – in her name regularly to give her a corpus large enough to pay for her higher education.
Get the paperwork right
Mutual funds do not allow a second holder or a nominee for investments made in a minor child’s name. The parent needs to be registered as a guardian. You can also change the guardian in the MF folio by writing to the mutual fund. Change of guardian becomes essential in case of death or separation of parents. If you wish to hold the MF units in demat mode, even the demat account should be in your child’s name, with you or your spouse added as a guardian.
Make sure your know-your-client (KYC) process is complete. Some banks may not allow internet banking or may have restrictions on use of cheques for the minor’s bank account. Understand these terms and conditions beforehand and choose a bank that is safe and also allows you ease of transactions.
What happens after child turns 18?
All instructions, including SIPs and STPs, given by the guardian, get suspended and the folio gets frozen.
At this time, your child needs her own PAN and must complete the bank KYC. Once the bank account drops the minor status, approach each fund house where you have your folio and complete the process of conversion of folio from minor to major. You need signature attestation from bank, bank account details, service request form and KYC letter. Though KYC done with one mutual fund will be automatically picked up by other AMC, the conversion from minor to major needs to be done with each mutual fund. After the folio attains major status, you lose control over those investments and your child is in charge of those investments.
Can you withdraw before your child becomes a major?
Yes. The sale proceeds get credited to the minor’s bank account. And capital gains earned are clubbed to your income and taxed at the applicable rate. If both the parents have incomes, then the gains are clubbed with the parent whose income is higher. If the units are sold after the child attains the major status, the tax liability falls on the child.
What about special children? “In case of a special child, do invest in his/her name. It helps to create a dedicated corpus and it is tax efficient too,” says Jitendra Solanki. Here’s why. Capital gains and income earned in the investments held in the name of a special child are not clubbed with the parents’ income.
Akhil Chandna, Associate Partner, Grant Thornton India LLP says, “The clubbing provisions of Section 64 of the Income-tax Act, 1961 specifically excludes ‘special child suffering from any disability as defined under Section 80U of the Act’. In this case, a separate PAN should be applied for the child and separate return has to be filed.”
Where should you invest?
Avoid child-focused mutual fund schemes. Children-specific MF schemes only help in enforcing the discipline of staying invested, since they come with lock-ins. But since these aren’t the marquee funds and don’t regularly get assets, many such schemes lack good and solid performance. “Child plans of mutual funds are managed like other schemes as per investment mandate of the scheme and do not offer any extra benefit. Given the lock-in, they are best avoided,” says Solanki. Children plans typically come with five-year lock in or till the child turns 18 years of age.
“Avoid investing in an equity linked saving scheme (tax saving mutual fund) in the name of child. It comes with a three year lock-in. But the guardian cannot claim tax deduction under section 80C,” says Kothari.
Look at regular equity funds for longer horizons. “If you have a long timeframe, consider investing some money in mid-cap funds as well,” says Deepak Chhabria, founder and managing director of Axiom Financial Services.
Avoid investing in traditional life insurance policies as they offer low single-digit returns, says Deepak. Equity funds across categories have delivered 8-10 per cent returns annually over the last 10 years.
Then there are the fixed-income options. For your daughter, invest in the Sukanya Samriddhi Yojana. This gives you a tax-free return of 7.6 per cent till the girl child attains the age of 21.
You can open a public provident fund in your child’s name and invest each year. In both the schemes, contributions are eligible for tax deductions under section 80C. However, do remember you have to contribute each year in these accounts and they come with stringent lock-in rules.