How to maximise your child's tax-free savings

When you take into account the £100 rule, how much money could your child save before you start to be taxed?

With the base rate at just 0.5%, savings rates have never seemed so low. Indeed, anyone with a lump sum to save that they need instant access to could be feeling pretty depressed.

Clearly the only way to ensure every pound is earning as much as it can is to keep an eye on that savings account and be prepared to move your cash, should a more competitive deal come on the market.

Don't forget the kids

But while rate-chasing is vital, one area of saving that families shouldn't forget is their children's accounts. Kids can often have a pretty penny stashed away in their humble savings accounts, so regularly check the rate their cash is earning and be prepared to move it.

What's more, independent researcher, Moneyfacts recently reported that the number of searches for children's accounts it recorded surged every time a rate cut was announced, which could suggest some parents are stashing money away in their children's names in order to earn a better rate.

Best buys - instant access savings

So which accounts currently top the children's savings tables?

Well, for bog-standard high street savings accounts, Chelsea Building Society is offering 2% with its "Ready Steady Save" account. You only need £1 to open one and it can be operated in branch, or by post.

Leeds Builidng Society offers under-12s a "Dinosaver" account which also pays 2% AER and you'll need £10 to open one. It, too, can be operated in branch, or by post.

Best buys - regular savers

Topping the tables here is the much advertised Halifax (12 month) Children's Regular Saver. It currently pays under 16s, 6% AER (having recently dropped its rate from a far more exciting 8% AER) and you can choose to save between £10 and £100 per month. It can be operated in branch, by phone or post.

Like most regular savers you aren't allowed to make withdrawals during the year. You'll need to make sure you keep up the monthly payments or the account will be closed and money transferred to a Save4it account (currently paying 1.05% AER).

And if you live near a Nottingham Building Society branch you could take advantage of its Children's Regular Saver, currently paying 5% AER (note: this account is branch based only). Not only is this rate guaranteed until 15 April 2010, it also allows you to make withdrawals whenever you like without penalty (unlike the Halifax account).

As long as you submit an R85 tax form your child will receive interest, tax-free. What's more, your children can open as many accounts as they like (just make sure an R85 is submitted for each one).

£100 rule

But if you were thinking of stashing all of your savings into your kids' names and taking advantage of their gross interest, take note of one important point. While as a parent (or step-parent) you can give as much money as you like to your child, if the interest earned on it exceeds £100 a year, you will be taxed on it as if it were your own.

Exception

A notable exception to the £100 rule is the Child Trust Fund (CTF). A maximum of £1,200 per year can be paid into your child's CTF and no matter how much interest is earned you will not be taxed upon it.

Only money from a parent counts

What's more, you should note that the £100 rule only applies to money given by a parent (or step-parent).

Anyone else (grandparents, aunts, uncles, friends etc) can freely give to your kids and not only will they not be taxed, but the interest earned will not count towards the £100 maximum, either (although there may be some inheritance tax to pay should the person who gave the sum not survive for seven years).

And the rule applies to each parent so the child could earn £100 interest from money from mum, and £100 from dad, for example, before tax is payable.

How much could your child save before you're taxed?

But going back to the £100 rule - with savings rates being so low, how much could your child stash away before you start to be taxed?

Well, assuming an instant access account is required, your child could stash up to £4,950 of money (from you) into the Chelsea BS savings account before you're taxed (this would earn £99 over the year).

Alternatively, if the Halifax regular saver takes your fancy, saving the £100 maximum per month (£1,200 over the year) would earn your child £38.65 over the course of the year. Another £100 could be stashed away per month in the Nottingham Regular Saver (provided you live locally), earning a further £32.26 (totalling £70.91).

And a further £1,450 could be stashed into the Chelsea (or Leeds) BS account to earn a further £29, meaning the interest for the year adds up to a grand total of £99.91. So, in this case, £3,850 of money from each parent could potentially be saved by a child before any tax would be payable.

(You could work out how much interest your child would make on his or her money using our savings calculator).

So, as you can see, even with the £100 rule a surprising amount of cash can be squirreled away by your kids before Mr Darling can clamour for his cut.

Separate out their savings

And as a final note, saving for kids can clearly be a complicated business and no one wants to be taxed unfairly. If your child is regularly given money from relatives that could be assumed to come from a parent, open a separate savings account for it - this should make things crystal clear!

Ten of the best savings rates in town | Your guide to child trust funds | Children's saving centre