Shun the student debt hangover

Ten years ago, the squeeze started on students when the Conservatives froze grants and introduced student loans. New Labour meant new costs for undergraduates - grants have now disappeared and annual fees add to the financial burden.

While all parents can dream of the proud moment of their child's graduation, the post-graduation debt can be a ball and chain, and one that is likely to grow heavier.

The Association of Investment Trust Companies estimates that a three-year course could now carry a price tag of up to £20,000. Parents who want to pay the bill will have to be wealthy enough to fund annual costs approaching £7,000 or save up while their child is younger. The flexibility, relatively low costs and diversification benefits of investment trusts makes them an excellent way for far-sighted parents to reduce the handicapping effects of student debt.

Since investment trusts typically offer a portfolio of 50 or more companies the investment is likely to grow gradually in line with the stock market rather than at the whim of investors in an individual company's shares.

Their low costs mean the investor gains more of benefits of the investment. And they are flexible enough to allow the investor to decide whether to make a one-off lump-sum payment (perhaps of several thousand pounds) or ongoing regular savings (of perhaps a few hundred pounds a month).

Different investment trust shares have different levels of risk and these can be selected and combined to most efficiently achieve the investment target. For example, zero dividend preference shares of investment trusts offer a very low-risk way to grow capital over a given period of time.

At present an investor who buys a zero can expect to gain an average annual return of perhaps 8%, entirely in the form of capital gains, which can be offset by his or her capital gains tax allowance - investors are allowed to make £7,200 a year in capital gains without tax liability. But since zeros are very low-risk investments the returns are not outstandingly high.

These may suit parents who have a reasonable amount to invest and can achieve their target with modest returns. Or they may suit parents with only a short period until their child heads for academia and who are more interested in growing the amount of money they can provide in support but are unwilling to assume much risk.

Alternatively, for parents with a slightly longer timeframe or those willing to take on slightly more risk, well-diversified global investment trusts might be ideal. Trusts such as Foreign & Colonial and Witan have an enviable record for providing steady and respectable growth over reasonable periods of time without too much risk.

Edinburgh Fund Managers believe that the need for the young people of today to finance their student days plus the lessons in basic personal finance added to the national curriculum will make children more financially astute than their parents. It has a special InvestIT plan aimed at children.

For parents who can make do without spending the child benefit, Edinburgh suggests using it to fund a savings plan.

"Over the long term - and for a young child going eventually to higher education we might be talking 15 years - higher returns could be achieved from investment trusts than bank accounts," says Edinburgh's Lesley Drummond.

"Child benefit is over £60 a month for the first child and is paid until 16 but is extended if the child is still at school or equivalent."

Over 15 years, a £62.40 monthly contribution (the current child benefit for the first child) would have produced £32,443 in the middle of the road Edinburgh Investment Trust - almost double the £17,427 from top-paying building society accounts.

The scheme costs nothing other than stamp duty, although there is an £11.75 fee for withdrawals. It can be stopped without penalty if conditions change - or if investors want to put their money elsewhere.

And the fund managers will set up a trust account free of charge so that the money will be made available when the child reaches university age.

David Smith is investment funds editor at www.citywire.co.uk

Case study: New home for child benefit

Electronics engineer Alan Graham (right) decided to go for a higher risk when he switched the family's child benefit from helping to pay the grocery bill to a long-term investment trust savings plan.

"I sent off for a free booklet on investing for children from Flemings. I liked the idea of their investment trust savings scheme because it was very flexible," says Alan, 44, from Lancaster.

The family's child benefit is worth around £100 a month so Alan has split the money between Jack, six, and Tom, three. "The idea is that I keep saving at this level until they reach 18."

And because Alan, who has shares of his own but no investment trusts, is looking at a minimum of 12 years, he is willing to go up a notch or two up the risk scale by investing in the 250 biggest companies outside the Footsie index.

"I'm hoping that investing £9,000 for each boy over the next decade will turn into £15,000," he says. "If it doubles I'll be really pleased."