Children's mutual funds explained: What are they and who do they suit?

Raising children involves more than just providing daily necessities—educational costs, extra-curricular activities, and even marriage expenses can add up quickly. As the cost of living rises, it becomes critical to plan for your child’s future early on. That’s where children’s mutual funds come in. These specialised schemes are designed to foster long-term wealth creation, specifically earmarked for a child’s future needs. By learning about how to invest in children’s mutual funds, parents gain a tool that can help them meet big-ticket expenses in a structured way.

• Table of contents

• Defining a children’s mutual fund
• Key features
• Why are children’s funds created?
• Common goals addressed
• Who might benefit from child mutual fund plans?
• Suitable investor profiles
• Key advantages of investing in children’s funds
• Potential risks of child mutual funds
• Tax implications for child mutual fund plans
• Essential factors before you invest in children’s mutual funds
• Steps to invest in child mutual fund plans

Defining a children’s mutual fund

So, what are children’s mutual funds exactly? These fall under the category of ‘solution-oriented funds’. These schemes are tailored to long-term goals such as financing education or major life events. Typically, the account is opened in the child’s name but managed by a parent or guardian until the child reaches adulthood. The investment strategy may vary, but many funds maintain a balanced portfolio of equity and debt to balance long-term growth potential and relative stability.

Key features:

• Lock-in or restricted withdrawals: Such funds have a lock-in period of five years or until the child attains age of maturity, whichever is earlier.
• Goal-oriented: The fund’s structure aligns with long-term goals such as higher education.
• Flexibility: Mutual funds provide flexibility, both in how much you invest and how you manage withdrawals after lock-in completion. You can withdraw the entire amount, or you can stay invested and withdraw the desired amount as and when you need funds (subject to available corpus).

Why are children’s funds created?

At their core, child mutual fund plans have a primary objective: to strengthen a child’s financial future through long-term investing. Children’s funds aim to build a sufficient corpus by potentially capitalising on market growth opportunities over extended periods. Since children typically have time on their side, the power of compounding can turn modest monthly contributions into a sizable sum down the road.

Common goals addressed

• Higher education: University costs can skyrocket, especially if you aim for renowned global institutions.
• Extracurricular excellence: Whether it’s sports training or arts programs, specialised interests can be expensive.
• Marriage and other milestones: Major life events often come with large bills, making prior planning essential.

Who might benefit from child mutual fund plans?

Choosing to invest in children’s mutual funds isn’t limited to parents alone. Grandparents, other relatives, or legal guardians can also use these funds to secure a child’s financial future. Essentially, anyone responsible for a minor’s upbringing and education, or anyone looking to gift a meaningful financial instrument, can leverage these schemes.

Suitable investor profiles

• Parents of new-borns: Starting early offers an extended investment horizon.
• Guardians of young children: Even if your child is already in primary school, you can still benefit from 5–15 more years of compounding.
• Relatives or grandparents: Child mutual funds can be a thoughtful long-term gift.

Key advantages of investing in children’s funds

• Disciplined investing: Systematic Investment Plans (SIPs) help you regularly contribute a fixed amount to a mutual fund, harnessing the power of compounding and mitigating volatility risk through rupee-cost averaging. Alternatively, those who prefer to invest large amounts can opt for lumpsum.
• Lock-in discipline: The five-year lock-in ensures you won’t dip into the funds impulsively.
• Professional management: Like other mutual funds, these plans have expert fund managers optimising the portfolio for balanced growth.
• Varied risk profiles: Depending upon the scheme and fund house, children’s funds can be debt-oriented funds, equity-oriented or hybrid, catering to varying risk appetites.

Potential risks of child mutual funds

While child mutual fund plans can be an effective way to plan financially, they are not immune to risks:

• Market volatility: All market-linked investments involve some risk. The equity portion especially can be impacted by volatility, economic conditions and market trends.
• Credit risk (debt portion): The debt portion of the fund can face credit risk (risk of default by the debtor) and interest rate risk. The former can be mitigated by investing in high quality securities.
• Lock-in constraints: While the lock-in is often beneficial for discipline, it also reduces liquidity.
• Uncertain returns: Unlike fixed-return instruments, mutual fund performance varies with market conditions.

Tax implications for child mutual fund plans

• Ownership and taxation
  • Capital gains: On redemption, capital gains are taxed similarly to other mutual funds. If it’s an equity-oriented scheme, gains over Rs. 1.25 lakh in a financial year are taxed at 12.5%. For debt-oriented schemes, the tax rate is as per the prevailing income tax slab.

Essential factors before you invest in children’s mutual funds

• Time horizon: Since these funds have a lock in period of five years, your investment horizon needs to meet or exceed that.
• Fund objective and composition: Examine equity vs. debt distribution. More equity might offer higher return potential over time but comes with increased volatility.
• Expense ratios: Higher expenses can eat into net returns over time. Compare the fee structures of different funds.

Steps to invest in child mutual fund plans

• Choose a trusted AMC: Opt for reputable fund houses with strong track records and transparent disclosures.
• Decide on fund category: Determine if you want a predominantly equity-based scheme for higher growth, balanced approach for lower risk or a debt-oriented scheme for a more conservative approach.
• Invest through lump sum or SIP: A lump sum might be suitable if you have a substantial amount ready. Alternatively, a SIP spreads contributions out, reducing the impact of market volatility.
• Monitor periodically: While the investment is for the long haul, reviewing the fund’s performance occasionally ensures you’re on track.

Conclusion

Children’s mutual funds can provide an efficient route for potential long-term wealth creation, specifically targeting a child’s future educational or personal milestones. By harnessing the power of compounding, these dedicated funds can help parents or guardians avoid the last-minute scramble for finances. While there are certain risks and lock-in conditions to keep in mind, prudent planning—along with an understanding of tax norms and scheme features—can make child mutual fund plans a suitable component of your financial strategy if they align with your risk appetite.

FAQs

What does children’s fund refer to?

A children’s fund is a solution-oriented mutual fund scheme created to meet long-term financial needs related to a minor’s future. It often incorporates both equity and debt instruments, focusing on balanced or growth-oriented portfolios.

What is the lock-in period for children’s funds?

The lock-in period for children’s funds is five years or until the child reaches age of majority, whichever is earlier.

Is there any requirement for investing in Children’s Funds?

You typically need to fulfill KYC (Know Your Customer) formalities on behalf of the minor. The guardian’s identity proof, address proof, and relationship documents may be required. Check each AMC’s policy for specific details.

Can I invest in a mutual fund for my child?

Some fund houses in India offer child-focused funds tailored for education or other long-term goals. You can invest through lump sum or SIP modes, depending on your financial capacity.

Which is better – child plan or children’s mutual fund?

This depends on individual preferences and financial goals. Traditional child plans (like certain insurance policies) might offer fixed returns or insurance coverage but can come with higher costs and limited flexibility. Children’s mutual funds, on the other hand, may provide higher growth over time and more investment freedom, though returns are market-dependent.

Mutual Fund investments are subject to market risks, read all scheme related documents carefully. This document should not be treated as endorsement of the views/opinions or as investment advice. This document should not be construed as a research report or a recommendation to buy or sell any security. This document is for information purpose only and should not be construed as a promise on minimum returns or safeguard of capital. This document alone is not sufficient and should not be used for the development or implementation of an investment strategy. The recipient should note and understand that the information provided above may not contain all the material aspects relevant for making an investment decision. Investors are advised to consult their own investment advisor before making any investment decision in light of their risk appetite, investment goals and horizon. This information is subject to change without any prior notice.