Which investment option is the best for your child's future?

An increasing number of Indian parents is doing that today. In an online survey conducted by economictimes.com for ET Wealth last week, 63% of the 1,908 respondents said they started saving for their children's education when they were born. Another 9.2% had started even before the kid was born (see graphic).

That's good news, because the earlier you start, the more the time available for your investments to grow, and the bigger the corpus.

But are Indians choosing the right options when investing for their children? Here's the bad news. An overwhelming majority is opting for low-yield instruments. Almost 45% of the respondents in our survey said they invest in the Public Provident Fund (PPF) and fixed deposits for their children.

Another 38% have invested in traditional insurance policies. "Despite the numerous options available, Indian parents continue to rely on bank fixed deposits due to lack of awareness," says Ashu Suyash, country head, Fidelity International.

The encouraging part is that 43% also invest in equity mutual funds and stocks for their children, while 26% have opted for child insurance plans that provide for the education of the child if the parent is no more.

The skew towards low-yield products also means that many Indian parents might fall short of the targets they have set for their children's investments. ET Wealth estimates that raising a child in urban India from cradle till college costs roughly Rs 55 lakh. ( Downloadable file: How much it costs to raise a child )

The calculation assumes that the child will take up a professional course costing Rs 10 lakh. This is the cost at today's prices and the amount has to be adjusted for inflation. Now comes the scariest part. Education costs, which constitute nearly 46% of the total expense on a child, are growing at a worrying pace of 20-25% per year.

Formulating a strategy

Fortunately for parents, there are enough investment products to help them fulfill the dreams for their children. Chosen appropriately, these options can help you save enough to send your daughter to the best medical college in the country, or book a ritzy 5-star hotel for your son's wedding.

How does one choose the right product? The first thing to understand is that there is nothing to differentiate the investments made for children from the rest of your portfolio.

They are exposed to the same risks, offer the same returns and are taxed at the same rate. No mutual fund will give units at a discount or offer guaranteed returns just because a parent is saving for his child. No bank will offer you a higher interest rate.

No insurance company will charge a lower premium. The taxman too will not exempt any income. So, the same rules that govern your own investments should apply to those made for your children.

Your choice should depend on four basic factors: the tenure of the investment, the risk you are willing to take, the returns offered by the option and the taxability of the income. Here's how these four factors can affect your investments.

Tenure of investment

Are you saving for your daughter's education? Or for your son's marriage? Financial planners say it is best to define your goals and segregate the investment for each goal.

"Since each goal has a different time frame, separating them will allow the parent to choose the most appropriate investment to reach that goal," says Pune-based financial planner Gaurang Gandhi.

The stock market has historically been the best place to park your money for the long term. There are enough studies to prove that equities give the highest returns in the long term.

"Don't invest in a long-term fixed deposit for your daughter's education when she is just a toddler. The money that is not going to be touched for a long period should ideally be in equities," says P.V. Subramanyam, a financial trainer at Iris.

For many parents, defining a goal that is 15-20 years away is not easy. Hyderabad-based Srinivas Vinjamuri and his wife Pratyusha are investing for their one-year-old daughter's education and marriage, but have not earmarked funds separately for the two goals.

"Right now, we are just putting money in a mix of balanced and equity mutual funds," says the manager in an MNC. That might work fine for the Vinjamuris right now as their first goal is at least 15-16 years away, but eventually, they will have to plan for each expense separately.

Risks and returns