Best pensions for children

Help your children to long-term security and wealth, leaving them to concentrate on living for now without a guilty conscience.

Of all the ways to save or invest for our children, I like pensions best, because then they can't get their sticky hands on it until their mid-50s at the very earliest. Since young adults struggle to plan for the long-term, by locking up their gift until retirement, you're freeing them of the temptation to spend it all as soon as they come of age.

The advantages don't stop there

If you (or grandparents or godparents) invest just £100 in a junior ISA when your baby is born, 18 years later that £100 might have grown to almost £300 (assuming your investments average a 6% return per year). That's nice beer money, and that's probably what it will be used for.

On the other hand, if you invest that £100 in your child's pension for 55 years, the pot will have grown to a staggering £2,500. This means your child will have saved for three times as long, but got more than eight times as much money. Starting earlier makes a huge difference.

I've been looking through as many pensions as possible this week to see which can be used by children. Here are the best ones, as far as I can see.

For small monthly or one-off contributions

My first recommendation is for people interested in making modest, one-off contributions adding up to no more than around £800 per year, or small, automatic monthly contributions of (say £20 to £70 per month) for as little as one year or as long as 18 years, as you prefer. The government will also currently add on 25% in tax relief, even though your child probably doesn't pay taxes.

If that sounds like what you want, a sensible bet looks like going through Cavendish Online to buy into the Aviva and Legal & General stakeholder pensions. Cavendish Online charges a one-off £35 fee. For that, it will give you access to these stakeholder pensions at reduced cost, bringing annual commission charges of around 1% down by close to half. You can expect your child to save hundreds or thousands of pounds with that deal over the years.

The additional great news is that with funds, the lower the costs, the greater the chance that you'll outperform your peers. More expensive funds under-perform, on average – in investing, you don't get what you pay for.

Both Aviva and L&G offer around 40 investment funds for you to choose from. Here's Aviva's list of funds and here is L&G's. Ignore the fund labels, such as “defensive”, “cautious” or “high risk”, because those are not just crass generalisations, but they can be extremely misleading to anyone with investment horizons spanning decades. Check out Authorities making a mess of measuring risk for more.

To choose a conservative fund with a good chance of producing a decent pot in the decades ahead, consider the investment funds in the providers' fund list that invest 100% in shares (otherwise known as “equities”) and which also have the words “index”, “tracker” or “tracking”.

These funds will fluctuate madly up and down over the years, as investments do. If you ignore that market madness completely and keep paying in your monthly contributions, your offspring are likely to be satisfied with the results in the long run. But I can't guarantee anything.

There is another pension I like even more, because it has a small edge on costs, and that's the SIPPDeal SIPP. However, the proviso is that you, like me, are willing to limit the investments in your child's first pension to just one of the funds on SIPPDeal's long list of funds: the “Legal & General UK Index Acc”, costing 0.5% per year. The other funds are more expensive.

To take advantage of the SIPPDeal pension, you could set up a regular monthly investment, rather than do one-off contributions, because there is an extra charge at £10 per contribution otherwise.

For larger monthly or one-off contributions

My next selection looks better for those who can afford to be even more generous to their lucky, spoiled kids. I'm talking about contributions of, say, £240 per month for at least a few years (that totals £300pm when the pension provider claims the tax relief for you) or contributions of £80 or more per month for all or most of your child's first 18 years.

Alternatively, if you want to put in lump sums, this could work out best if you put in around £2,500 per year for at least three or four years, or at least £1,000 or so for most of the child's first 18 years.

Bear in mind that just the first £2,880 per year you pay in gets tax relief, unless your child has a decent wage so, if you want to enrich them even more, you may be better off putting the excess into a junior investment ISA.

Anyway, I know you're tense to know which pension I'm talking about, and that's the Alliance Trust SIPP, which seems the best bet to me after running some numbers. This takes a £60 annual fee until the child matures, then it's £150pa. However, you get access to very good funds (i.e. cheap): concentrate on the “Vanguard accumulation funds” in Alliance Trust's funds list, particularly the ones that are invested entirely in equities (shares), such as “Vanguard Investments UK Ltd FTSE UK Equity Index”.

Changes in the air

With all the pensions mentioned above you can stop regular contributions at any time, for example, if your financial situation changes.

Please read the small print and charges yourself before choosing, particularly to ensure that I've not overlooked anything important. Also, my calculations are based on current charges and fees, and taxes and tax rules. These are likely to change over time.

Indeed, before the beginning of 2013 we can expect to see some big changes, because commission will be banned. This should hopefully reduce costs and make them more transparent, but it will certainly change how we pay for our pensions.

Finally, I think I've been pretty thorough, but I can't guarantee my calculations are correct, and I had to keep my suggestions on the level of contributions to reasonably rough estimates. Otherwise, my child would have turned 55 before I finished the article!

More: Compare investment ISAs through lovemoney.com | The danger of using property as a pension | Four ways to save for retirement