Why time, not money, is key to your child's financial future

We all want our kids to be financially savvy, but if we wait until they are old enough to learn to save for themselves, we rob them of the most important years of growth.

It’s tempting for parents to think, “They’ll start saving when they start earning,” or “It’s not worth it unless I can contribute big amounts,” but this mindset overlooks the most valuable asset in wealth-building, and the one advantage your kids have today – time.

The magic of compounding: Why starting early matters

One of the most powerful wealth-building tools at your disposal isn’t necessarily the amount you invest – it’s the time you give your money to grow. Thanks to the magic of compound growth, even modest investments can snowball into substantial sums over decades.

For parents looking to secure a financial head start for their children, starting early can make a huge difference, and a tax-free savings account (TFSA) offers one of the most accessible, tax-efficient vehicles to do just that.

To illustrate this, let’s compare some different investment scenarios using a 9.4% return per year. This is the average for the MSCI World Index for the last 40 years, a pretty good yardstick for the global markets.

If you invest R36,000 a year (R3,000 a month) in a TFSA for your child – the annual limit permitted – and you start investing from the moment your child is born, you’ll have invested the full R500,000 allowed by the time they are 14.

Without investing another cent, that investment will be worth more than R123 million when your child is ready to retire at 65.

In contrast, if you only start investing when your child is 9 years old (halfway to adulthood) they will only have R 53m at age 65, significantly less than half of what they’d have if you started at birth.

Quite simply, time always beats money when it comes to long-term investing.

Starting age: Return at age 65

Table Caption: Expected return at age 65 from a TFSA with 9.4% annual return, assuming R3000 monthly contribution until R500000 total contribution limit is reached.

Not a high earner? Start anyway

It’s possible for middle- and lower-income families to save, too – the trick is to invest small amounts since even modest contributions to a TFSA, made consistently, can add up over time. This gives your child an advantage they would not have had otherwise. It’s important to shift your thinking from “I don’t have enough” to “Even small amounts add up because time’s on my side”. 

Realistically, most parents won’t hit the R36,000 annual limit, so affordability should be the focus – contribute what you can, and your child will still be in a better position than had you not invested anything.

Contributing R500 per month for the first 18 years of your child’s life will give them an almost R300k head start in their TFSA. 

Assuming they continue contributing themselves at R3000 per month, they’ll have maximised their TFSA before they are 30 and have over R60m at age 65. 

That’s almost 3 times the amount they’d have if you didn’t give them that boost. 

Busting kids’ TFSA myths 

A common misconception among parents is that by investing on behalf of their children, they are somehow “using up” their child’s lifetime tax-free limits and robbing them of the tax-free benefit for themselves. This is flawed reasoning.

The reality is that only your child can ruin their tax-free benefit by withdrawing from their investment too early.

A better way to think about the lifetime limit of R500k is as a “goal” and not a limit. TFSAs are a long-term investment (precisely because of that lifetime limit), but they have an R36k annual limit too, so your kids can’t invest big lump sums into their TFSA later (e.g., if they get a big inheritance). It will take at least 14 years to reach the lifetime limit on a TFSA. Your goal should always be to get funds into a TFSA as fast as you can, so the investment can grow as much as possible and you can maximise the tax benefit.

The caveat is that you should never get in a position where you are forced to withdraw from your TFSA early. It’s important to have an emergency fund and other protections in place to cover unforeseen risks to your own TFSA.

But, if you can afford to help your child hit their R500k lifetime contribution goal faster than they can do it on their own, then you should. The numbers speak for themselves when you consider the huge difference in growth they will get from starting earlier.

The key to ensuring that your child doesn’t waste their TFSA benefit is to ensure they don’t make the mistake of withdrawing from their TFSA too early. You can’t waste their TFSA benefit, but they can.

The day your child turns 18, they have complete control over their own TFSA. They can transfer their investment into different funds if they choose to (this doesn't impact their contribution limits), or even sell all or part of the investment and withdraw the proceeds to their bank account (this can’t be replaced if they have used their full lifetime contribution).

This is where financial education comes in – if you emphasise financial responsibility, your children won’t just have money, they’ll be equipped with the knowledge to manage it and understand the impact of early withdrawals.

In the same way, adults building their TFSA should have an emergency fund and other assets they can draw on in the short term; your kids should have some other source of funds for short-term needs like tertiary education.

But, it’s worth thinking carefully about what those short-term needs will be and doing the sums to see if the TFSA is still the right option. In reality, the effect of those 18 extra years of growth is so strong that even if they do make some small withdrawals from their TFSA they will likely still be better off than if they started trying to save for retirement themselves at 18 or were given a lump sum later in life that is subject to tax.

Once they turn 18, they also have other tax-optimised products available to them like endowments and retirement annuities; their TFSA is not the only way to invest long-term.

The key is that these funds give them incredible options. They may assist them in taking a gap year or even pursuing a career that will make them truly happy without needing to worry about saving for retirement. What better gift can you give your child than the freedom to pursue their passion or calling and still be financially secure?

Saving for education? A TFSA can help, but do the maths

If you want to use a TFSA to help save for your child’s education, there are several advantages: flexible access, no tax on growth or withdrawals, low fees (if you shop around carefully), and simple rules (stay within the annual and lifetime contribution limits). 

However, other education products may be more appropriate if your child is already close to needing those funds (already in their teens) or if that is the only money you are saving for your child. Given that TFSAs are long-term, not medium-term, investment vehicles and any withdrawals would count against the lifetime limit, they aren’t appropriate if you expect your child to withdraw the majority of what you have contributed within the next 10 years.

If you are already saving for your child’s education, consider also investing in a TFSA for their long-term wealth. Split your investment between a unit trust or similar investment for their education and a TFSA for their retirement.

What happens if you simply build your wealth and pass it on? 

Another option is to invest funds to build wealth in your name and then pass along the funds once your child is an adult.

Although there are advantages to this, such as keeping full control over your assets and deciding how and when to transfer them, there are also some disadvantages. The most impactful of these is tax. This could be the tax on interest, dividends, or capital gains, depending on the investment vehicles used, the donations tax paid when you transfer the assets to your child, or the estate duty paid when your child inherits assets from you on your death. The sooner the tax eats away at your investment, the more it slows down the compounding effect.

For comparison with our earlier scenarios, if you invest R3000 per month in your own name until your child is 18, then give them a lump sum (after capital gains and donations tax) so they can contribute that into their own TFSA and other investments they will only have around R38m after tax at age 65.

Compared to the R123m they’d have if you just put the money into their TFSA, the benefit of the massive tax saving over time is clear.

Just start

However, if you choose to invest in your child, the most important thing you can do is start. Time is your child’s investment superpower; don’t let it fade away unused.

* Hope-Bailie is the Founder of Fynbos Money.

PERSONAL FINANCE