Start Early, Reinforce Often

Preparing Your Child for Future Financial Success

As a parent, my top priorities are to keep my children safe and to set them up to be successful, independent, capable individuals. With my career being what it is, you can imagine that setting them up for financial success is a piece of that puzzle for me. So, I'll be sharing some unconventional ways to bring financial success to your child or even your future children.

Here are a few less-than-conventional ways that I've found to set my kids up for success, often teaching them excellent money management skills along the way.

Opening Roth IRAs for Children

A Roth IRA is a retirement vehicle that you fund with post-tax dollars. The tax benefits of a Roth IRA are that all withdrawals made after age 59½, or in the case of death or disability, are entirely tax-free. If your children are minors with earned income, you can help them open up a Roth IRA as I did with my daughter, Reagan.

Anyone can open a Roth IRA, including minors, as long as they can show earned income. The income can be in the form of a job or self-employed gig. Interestingly, and known to very few, is that there is no age requirement to open a Roth IRA.

Our daughter started working and saving at age 14, but children can earn an income even earlier than that. I know of one six-year-old in my parents’ neighborhood who was eager to get to work. His father helped him create a flyer to offer a service taking out his neighbors’ trash which they shared amongst some neighbors. This little boy was thrilled to earn $92 over the next two weeks, and I'm sure he learned some outstanding life lessons along the way. When I saw his dad in the weeks that followed, I let him know that as long as he helped his son document his income and met any necessary tax obligations, he could invest his son’s earnings in a Roth IRA.

But, what kids are thinking about retirement? It may as well be a lifetime away for them. Of course, we know better, so we can help guide them in the right direction. Right now, though, Reagan's more immediate goal is to save her money for a car. This is great! We are thrilled with this, in fact. But in the meantime, my wife and I can at least fund her Roth IRA to help her get a jump start on retirement (up to her max earnings for each tax year or $6,000 contribution limit – whichever is the lesser amount). Since she earns very little, she is in a low tax bracket and pays little tax on her income. The low annual income means that the money going in and the money coming out in the future has very little tax expense.

But that’s not all. There is another benefit: After a 5-year holding period, you can withdraw your contributions without tax or penalty. Your earnings would be subject to tax and penalty if withdrawn before 59½ , but not your contributions. This provision means that if Reagan needed to borrow money for college, she could withdraw up to the amount of her contributions without penalty.

How helpful is this for your child?

Let's take it all the way to retirement.

Say you get your child in the habit of saving $300 per month for retirement beginning at age 14. Even if they never raised the monthly contribution, they would amass around $1,136,000 by 59 ½, assuming a modest 7% return.

Compare that to the average American who begins at 31. They will have to save $450 per month with a 7% return just to reach $700,000.

In this example, $436,000 is how meaningful this can be. What would you have done with this kind of leg up?

529 Plans for Children (…even before birth!)

A 529 plan is another tax-advantaged vehicle that is great for saving money for your children. These are much more widely spoken about as they are college savings vehicles in which funds are earmarked for education (rather than retirement like with the Roth IRA).

Here are two fun facts about 529 plans: you can open them before the child is born, and you also are not restricted to opening the 529 plan sponsored by your state of residence. I started 529 plans for both of my children before they were even born – naming myself as the beneficiary and then changing beneficiaries to the kids after they came into the world. The value of additional time in the market and compounding is tremendous. This is an excellent approach if you plan to have kids and want to prepare for their future education.

How helpful can this approach be?

Make a $5,000 contribution when your child is born. Then, perhaps contribute $150 per month thereafter. If we assume a modest 7% return, the account will have a balance of about $80,000 when your child turns 18.

Make that same $5,000 contribution and $150 contributed monthly starting two years before your child is born. That kicks the balance up by about $15,000. You are only contributing an extra $3,600, but the extra time in the market makes a significant difference.

Depending on the 529 plan you choose, you may even be lowering your taxable income along the way. On that note, you’ll have to decide in which state you will be opening the 529. All plans have different perks, limitations, tax benefits, and investment histories, so you’ll want to do your research. I'd suggest looking over the different options to see what will work best for you.

Early Investing with UTMA Accounts

My daughter started getting interested in investing many years ago (at age 6!). Each year during “Take Your Child to Work Day,” I would put some cash into her UTMA account and ask her to do some research on some companies that she was interested in. Her first purchase was Costco, and her reasoning behind that was because the lines were always so long and the store is packed. My son bought shares of Target – because they have a great selection of Legos. Of course, this not only gives the kids a sense of autonomy, but shows them just how powerful investing can be. This initial coaching from dad really peaked their interest in investing and as they got older, we transitioned away from individual stock picks into diversified equity funds and ETFs. Another lesson here is that my kids can still achieve great returns over time but with much less risk and volatility along the way. After all, this is a marathon – not a race!

I started following investments at age 12 as my grandfather got me interested, and only hope I am doing the same for my own children. It is never too early to have age-appropriate conversations about money. Getting your kids interested in the world of finance early will prepare them to handle more complex financial discussions down the road.

Which Approach Is Best for Your Family?

As you've read through this article, it should be clear that there are many different ways to set your child up for financial success. The best way is the one that's right for you and your family. If looking into these strategies leaves you with any questions, we can help! Family is at the core of everything we do here at Halpern Financial. Yours is no different.