How to make the private education sums add up

With the cost of fees for independent schools rising inexorably, securing the mix of savings and investment to finance them is an education in itself

Education, education, education went Labour's election slogan, but rows over class sizes, disruptive pupils and talk of teachers boycotting exams mean that independent schools are flourishing. But recent figures from the Independent Schools Information Service show fees rose by 7 per cent last year. Even the average day-school fees are over £8,500 a year. Boarders typically cost their parents almost £16,500, and the best-known schools charge considerably more.

Education, education, education went Labour's election slogan, but rows over class sizes, disruptive pupils and talk of teachers boycotting exams mean that independent schools are flourishing. But recent figures from the Independent Schools Information Service show fees rose by 7 per cent last year. Even the average day-school fees are over £8,500 a year. Boarders typically cost their parents almost £16,500, and the best-known schools charge considerably more.

Independent schools take more than 500,000 pupils in Britain, around 7 per cent of all school students. But fees in the next 12 months will probably increase by a further 10 per cent, according to Anita Griggs, the headmistress of Faulkner House School in London, thanks largely to higher teachers' salaries and the Chancellor's national insurance contributions increase.

Starting to save early is the straightforward way to prepare for those bills, despite wobbling share prices and the endless tales of endowment and pensions mis-selling. Alternatively, if you can afford it, many schools offer a "composition fee", a single sum, paid in advance, which helps reduce the overall cost of future fees.

At the other end of the spectrum, some schools have a limited number of scholarships and bursaries, and most can help families hit by divorce, unemployment or the illness of the main wage earner at critical times in their children's education. There are charities, too, which may also step in at such times to ensure that a child's education is not disrupted. But for the majority, it is a question of saving early and saving often.

"The right mix of savings and investments will vary from person to person," says Anne Bowes of the Bath-based independent financial adviser, Chase de Vere. "The crucial issue is timing. Anyone starting saving with nine or 10 years in hand is probably best off with unit trusts and OEICs (Open-ended investment companies). Historically, stock market gloom provides the right time to invest, though the type of funds people pick will depend on their attitude to risk. People with less than five years to the first school fees will probably need to rely on saving, however low interest rates may be."

Traditionally, the long-term answer was a series of overlapping endowments timed to produce their proceeds one after another. But the first 18 months' to two years' premiums go in commission and setting-up charges. Meanwhile cuts in bonus rates, and the appearance of MVAs (Market Value Adjustments), penalising people taking out funds, make them still less attractive.

Individual Savings Accounts (Isas) are the main alternative. A mini-ISA allows you to spread your investments: up to £3,000 can go in a bank or building society savings account, and another £3,000 into unit trusts. A final £1,000 can go into a with-profits plan or other form of insurance.

Alternatively, a Maxi-ISA allows you to invest the full £7,000 into unit trusts, investment trusts or directly into stock and shares.

Isas that meet the government's CAT (charges, access, terms) standards levy a one per cent annual management fee – and nothing else. If you take a tracker Isa following the FTSE index it may be as low as 0.5 per cent. Most general Isas charge more than the government's recommended figure, but not more than 1.25 per cent.

However, the tax benefits of Isas will be less attractive after next April, when dividends from shares held in an Isa will be taxed. Isas in savings plans and corporate bonds will continue to be tax-free, but the whole Isa scheme is due to be reviewed in 2006 and may not be extended beyond that. So the outlook is uncertain for investing for a new-born child's school fees.

Jonathan Horton, of the independent adviser Chamberlain de Broe Friendly Societies, says: "If you need life cover, take out a term policy, which will pay out a large lump sum if you die within the 10 or 12 years for which children are at school, and nothing if you do not.

"Assume you are 30, a non-smoker and want £100,000 worth of cover for 10 years. Legal and General will only charge £6.70 a month, and even at 40, the cost is only £10.80," he explains.

Should you suddenly need money for school fees, releasing equity from your house may be the best option. It makes sense to discover the terms your existing lender provides and then check with specialists like Charcol or FPD Savills. But with house prices starting to fall and deflation in the air, borrowing too much in this way could be a real risk.

Some people can get financial help from parents or family, but that can introduce the complication of inheritance tax, which does not apply to the first £255,000 of an estate, but then takes a flat 40 per cent. People can give up to £3,000 a year to someone else, but people getting money for school fees need to watch the rules on life-time transfers.

If someone dies within three years of making a potentially taxable gift, the money is added back to the estate. If they survive for a full seven years, tax does not come into the picture. But the tapering relief for periods of less than seven years is far less helpful than it looks.

Tax offices set gifts made in the previous seven years against that £255,000 allowance, before anything else. Concessionary rates may ensure that you only pay 20 per cent of the basic rate that applies if the donor dies between six and seven years of making his gift. But that 20 per cent rate only covers anything above the £255,000.

This reinforces the need for anyone contemplating paying school fees to start saving early and see an independent adviser to go through the sums involved. Paying fees for the advice may be an economy, for it should ensure that differing commission rates on different products will not skew the advice.

The cost of a private education

* Pre-preparatory school (age 3-7) £24,000

* Preparatory school (7-13) £54,000

* Secondary school (13-18) £95,000

* University £15,000

TOTAL £188,000

SOURCES: Gabbitas, Department for Education & Skills

'We didn't start planning from the very start'

Kate Mills, 10, is at a day prep school. Her parents, Floyd and Isobel Mills, run a wine business and fund her fees partly from income, partly with family help. But they have investments waiting in the wings.

"We didn't start planning right at the start, but when we last moved house I kept one of the endowments I'd taken for my endowment mortgage," says Mrs Mills. "That'll kick in when investment conditions improve, and we also hold equity ISAs. My father used to tell me about the need for life insurance, and I also worked at Bradford and Bingley for a while, so I'm attuned to finance."

Mrs Mills has even worked out how she will use the lump sum she can take from a previous pension scheme to pay for Kate's university fees.

The family own a large house and half a dozen horses, which could provide emergency funding. But with a flourishing business, that is less a plan than just psychological comfort.