Raising children and the cost of education

The cost of education is continually rising, with some private schools charging fees of up to $20,000 a year, and that doesn’t include uniforms, excursions and after school activities.  The cost of earning a degree particularly in the popular disciplines like law, IT and medicine is also rising.

The bottom line is that education is getting more expensive and competition for entry to the best courses will only get stiffer. Rather than having your children start their working life with a debt hanging over their heads, starting a savings plan when they are young is the answer. The key is to put a sound plan in place as early as possible, then stick to it.

Most parents know the importance of doing this, but are unsure how to start or what product or strategy to follow, particularly when there are tricky tax rules to be aware of. For example, if you put the investments in your own name, any interest income is added to your taxable income and may reduce your Family Tax Benefit. If you put the investments in your child’s name, penalty tax rates apply once they have unearned income over $3,333 in 2010–11.

So, what to do?  Here are a number of options to consider.

Mortgage offset account

If you have a mortgage you can build up funds in a mortgage offset account. This works both ways by reducing your interest costs at the same time. You can draw on the offset account when school fees become due.

Gearing into Australian shares

Borrowing to invest can be a tax-effective strategy because you can claim deductions for the interest cost and use imputation credits to reduce the tax payable. Just be aware that when you cash the investment in to pay school fees you may have to pay capital gains tax.

Investment bonds

Another option is an investment bond. These products sometimes have other names but are essentially tax-paid life policies where you choose the investment strategy. If they are held for at least 10 years, the proceeds are tax free when cashed in.

One useful feature is that the investor can make a contribution of up to 125% of the previous year’s contribution and retain the tax-free status after ten years. Income is reinvested and not included in the investor’s taxable income. If you cash them in before ten years there may be tax payable but you can use the proceeds for any purpose — not just for education expenses.

Friendly society education plans

These are similar to investment bonds in some ways. The friendly society pays tax at 30% and income is reinvested. However, a special tax concession allows the friendly society to claim back the tax paid if the funds are used for educational purposes.

The plan proceeds must be used for educational purposes, but there is more flexibility in making contributions and withdrawing funds than in an investment bond.

No one solution suits everyone. We recommend you talk to one of our financial advisers to see how the above options may best suit you and your family’s circumstances.