You may not realise it as the teacher finally ushers you out of the classroom but you effectively just signed up for a second mortgage. Estimates of what it costs to educate the average Australian child through primary, secondary and university years varies wildly depending on the school choice - but can range from $200,000 to more than $500,000 if top private schools are chosen for both primary and secondary years.

A good sense of the financial impact of education and child care on the household budget comes from a major AMP-Natsem Income and Wealth Report published in 2002. That estimates about 14% of the typical household expenditure each week went on education and childcare - so the second mortgage is not an unfair analogy.

School fees are now such a significant number that they are a definite issue for people's personal financial plan. The excitement of a new baby is usually tempered a little by the realisation that it is probably time to start saving for the school fees right after the first nappy is changed.

But most people tend to fund school fees out of cashflow when the bills arrive - and adjust the household expenditure accordingly. Some people are being advised to use their home loan redraw facility to finance the education bills.

The federal government has been fairly miserly with tax incentives to save for school fees - Treasury hates giving specific tax concessions for good reasons - so we do not have the range of specific savings vehicles that other countries like the US have.

But the key issue is really the need to save in a disciplined way - regularly and over reasonable time periods. Without the lure of a tax incentive the next best motivational tool is a proper household budget and financial plan because inertia is the investor's biggest enemy here. If you are travelling the private school route, and more people are, then the next time you review the household budget add the fees - being sure not to forget the sports uniforms, laptop, books and excursions. AMP has a useful web calculator to make sure you haven't forgotten anything and saves you the pain of adding everything up.

A common question for people wondering about saving for school fees is what is the best way of doing it? You do have to be careful not to trip over the special tax rules that apply to minors - those under 18 years of age.

Where people can be caught out generally is when it comes to interest or investment income. If an investment is in a child's name and the income exceeds $420 a year then unless a tax file number is quoted the investment company will withhold pay-as-you-go tax and the child needs to lodge a tax return to claim the tax back.

You may ask how come children are given special tax treatment when the rest of us can earn $6000 before paying any income tax. The answer is that some years back special rules were introduced to stop people income splitting with their children - a loophole exploited using family trusts that the tax office effectively closed.

The exceptions to these rules include minors working full-time, people with disabilities or eligible for certain pensions.

But that does not mean an investment cannot be set up in a child's name. Most managed funds will allow investments to be held in a child's name with an adult acting as trustee and providing their tax file number.

Once that is done regular savings by Bpay%AE or direct debit can usually be made.

Because the adult's tax file number is provided they have to declare any income on their tax return. Take the case of George who opens an investment account for $5000 for his five-year-old son and contributes $100 a month to it. The money is withdrawn to pay for the child's school expenses in secondary school. The tax office would consider the account to be George's and tax would be due at his marginal rate.

For parents - or grandparents - where one person is on a lower marginal tax rate then it makes sense for them to be the trustee for the account.

The tax rules may seem daunting and a good reason to do nothing. But it is a simple matter of saving for a specific purpose - in this case school fees - but it could just as easily be for a new car or overseas holiday. Having it in the adult's name adds the extra protection of the money still being in your control - family feuds have started over less.

What is clear is that the longer you have to save the less pain you feel on the disposable income front today. Also by starting early you open up your range of investment options to growth assets so that you can get some exposure to things like shares and listed property as well as fixed interest. By taking a diversified approach the portfolio benefits from the spread of assets while regular contributions will dollar-cost average your way through market ups and downs.

Along the way if it teaches the child the benefits of long-term savings their education will be all the richer.

Smart Investing
By Robin Bowerman
8 September 2006
Principal & Head of Retail, Vanguard Investments Australia
www.vanguard.com.au