Investment Accounts for Children

By January 29, 20212021, Money Moxie, Newsletter

Opening an investment account for a child is a great way to give them a financial head start. It also provides an excellent opportunity to teach a child the importance of saving and investing. Before you decide to contribute to an account for a loved one, make sure your own retirement goals are on track. I assure you, children prefer financially secure parents to gifts of money or financial inheritance.

Once you’ve decided you can afford to save for a child and still accomplish your own goals, the question becomes what type of account you should open. There are several options, each having benefits and drawbacks. I have provided a brief summary of some of the more popular account types below. Please reach out to us for more information before choosing which account is best for you.

Savings Account
This may be the best choice for short-term savings, but it is not usually recommended to fund expenses more than 24 months in the future. Savings accounts do not provide significant growth, offer tax benefits, or reduce the risk of inflation.

529 Plan
This is a great investment account if your goal is to fund qualified higher education and the beneficiary is still young. It is important to understand what constitutes qualified education, as not all education is qualified. Although this account can fund expenses at lower education levels, the benefits of a 529 plan increase the longer assets are in the account. All growth is tax-free, but taxes and penalties will apply to non-qualified expenses. The account owner can change the beneficiary of a 529 account.

UGMA/UTMA Account
These investment accounts are for minors. They offer flexibility, as money can be spent on anything that benefits the minor. Because the money placed in a UGMA/UTMA account is owned by the child, the earnings are generally taxed at the child’s tax rate. Those rates are usually lower than the benefactor’s rates and are often zero. When the child reaches the age of majority, the account must transfer to an individual investment account. At that time, the beneficiary gains full control and can use the funds however they choose.

Individual Investment Account
This account cannot be opened for a minor. It can be opened in the name of an adult with the intent to gift assets to a child at some point in the future. This account will never change ownership, and the account owner will always maintain control. All growth will be taxed at the account owner’s tax rate, and transfers of more than $15,000 per year to a single beneficiary may require filing a gift tax form, although gift tax may not be due.

Roth IRA for Minors
A Roth IRA may be opened for a child under the age of 18 if they have earned income. This account is a great way to jumpstart retirement for a minor. All growth is tax-free if used after the age of 59.5; otherwise, taxes and penalties may apply.

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