As a parent or grandparent, it can be a colossal task to save money for children and teach them about financial principles from a young age. You don’t want them to have to start from scratch the day they turn 18, but you don’t want to hand them a large lump sum and send them off to the races on their own, either.
One of the best ways to give your children a headstart in the world of personal finance is to open the right accounts for minors at a young age. Whether you’re looking at financial planning for newborn children, investing for your grandchildren, or just trying to find the best bank account for children, opening the right accounts can be an amazing starting point for your children or grandchildren to launch from.
When it comes to building generational wealth, starting early is key. That’s why we, at Concurrent Financial Planning, want to give you the right tools to help your child or grandchild to get started on the right foot. Establishing these accounts can help ensure that the next generation is financially prepared, whether for college, a first home, or a comfortable retirement down the line.
In this article, we are going to break down four accounts — 529 College Savings Plans, High Yield Savings Accounts, Custodial Roth IRAs, and UTMA (Uniform Transfers to Minors Act) Accounts — that can help to provide a solid foundation for your child’s financial journey.
529 College Savings Plans
A 529 College Savings Plan is one of the most popular and effective ways to save for a child’s higher education. It allows you, as a parent or grandparent, to start saving for your child’s college education from the moment they’re born.
This tax-advantaged savings plan is designed specifically for education expenses. It’s a powerful tool for parents and grandparents who want to enable their child or grandchild to afford the best possible education without being burdened by student loans.
These savings plans have greatly expanded over the past decade to allow for these plans to cover the costs of K-12 education and apprenticeship programs as well. These accounts can be used for qualified expenses, including tuition, fees, room and board, and other relevant expenses.
Tax Advantages
529 College Savings Plans have their own set of tax advantages – federally they grow tax-free with tax-free withdrawals – as long as the funds are used to cover qualified costs. These college savings accounts act much like a Roth IRA without the federal limit on contributions.
While your contributions to a 529 College Savings Plan aren’t tax-deductible for federal income taxes, many states provide tax deductions or credits for the contributions to some degree.
Investment Flexibility
529 plans typically offer a variety of investment options, including age-based portfolios that automatically adjust the asset allocation as the child gets closer to college age. This allows you to begin with a more aggressive investment strategy while the child is young and gradually shift to more conservative investments as college approaches.
This built-in flexibility with 529 College Savings Plans allows the plan to align with the family’s risk tolerance and financial goals.
Control
Another positive aspect for many parents or grandparents looking to open a 529 College Savings Plan for their children is the level of control it gives them. You aren’t just handing your child a big check and hoping they apply it to their tuition – the account holder is in control of the funds.
If your child decides not to go to college at all, the funds can be transferred to another beneficiary. Recent changes also allow up to $35,000 of unused 529 Savings Plan funds to be rolled over into a Roth IRA for the beneficiary, adding some padding to their retirement savings.
It’s also worth noting that 529 plans are considered assets of the account owner, not the beneficiary. This means they have a relatively low impact on the beneficiary’s financial aid eligibility. This can be particularly beneficial if the beneficiary applies for need-based financial aid, as it allows them to enjoy the dual benefit of both the 529 plan and the potential financial aid packages.
Withdrawal Implications
It’s important to note that withdrawals that are not made for qualifying purposes are subject to taxes as well as an additional 10% penalty, so your child must be using these funds for their intended purpose to get the full benefit of the plan.
Nonetheless, 529 Savings Plans are an amazing tool for parents or grandparents looking to help support their children through college.
To learn more how you can align your finances with your personal goals, and read more content like this, click here.
High Yield Savings Account
Another great way to help your child get ahead is by teaching them about financial responsibility and money management. A high-interest savings account is a simple, yet effective, tool to help you teach your children the value of saving money.
While a high-yield savings account (HYSA) might not offer the same growth potential as other investment vehicles, creating a bank account for children can play a monumental role in instilling good financial habits from an early age.
If you’re a grandparent looking for a place to send cash for birthdays, having a savings account for grandchildren in place could be the perfect way to go!
Safety and Accessibility
One of the main benefits of a lot of savings accounts is the protection that comes with depositing your money into the account. This same idea can help you build a secure nest for your child or grandchild.
An HYSA provides a safe place for a child’s money to grow. The money that you put in the account is protected by the Federal Deposit Insurance Corporation (FDIC) up to $250,000 per depositor, per insured bank. This gives you peace of mind that the savings you have for your child are secure, regardless of what happens in the financial markets.
HYSAs also allow you to withdraw your money as needed. Unlike a Roth IRA, with a high-yield savings account you can take your money out of the account at any time – it’s your money to spend. This allows you to have an account for your child that they can access as needed.
However, this increased accessibility also opens the possibility of your child needlessly spending the funds. This is why bank accounts for children are the best option for your child if they are put in place in conjunction with establishing financial responsibility.
Encouraging Savings
By setting up a high-interest savings account in a child’s name, parents and grandparents can encourage regular deposits, whether from birthday money, allowances, or other gifts. Watching their balance grow over time, with the added benefit of compound interest, can motivate children to save more.
This can also encourage you to regularly deposit into your kid’s bank account so that you can have money set aside for your child without the need for large transfers all at once.
Many financial institutions also offer accounts specifically designed for children, which may include educational tools and resources to help them learn about money management. These kids’ bank accounts allow your children to reap the benefits of the funds and the financial education they can provide.
Interest Rates
Last but not least, one of the main benefits of a high-interest savings account is in the name – it’s the high interest rate!
While interest rates on savings accounts have been historically low in recent years, high-interest savings accounts still offer better returns than traditional savings accounts. While the interest you can get from these accounts is modest compared to potential stock market returns, HYSAs provide a risk-free way to grow a child’s savings, making them great accounts for minors.
Custodial Roth IRA
This next account is an often-overlooked option for your child, but it can be an incredibly powerful tool for long-term wealth building. Though many people associate IRAs with retirement, starting a Roth IRA in a child’s name can set them up for financial success far beyond their working years.
Eligibility and Contributions
Good news, there is NO age limit for contributions to a Roth IRA. You can contribute as a baby!
There are, however, income limits to opening a Custodial Roth IRA. In order to open a Custodial Roth IRA, the child must have earned income. This could come from part-time jobs, babysitting, lawn care, or any other form of legitimate work.
The contribution limit for a Roth IRA in 2024 is $7,000 or the child’s total earned income for the year, whichever is less. Parents and grandparents can contribute on behalf of the child, as long as the total contributions don’t exceed the child’s earned income.
Tax Advantages
A key advantage of a Roth IRA is its tax-free growth.
While contributions to a Roth IRA are made with after-tax dollars, meaning the child won’t get a tax deduction for contributions, the real benefit comes later. As the investments within the Roth IRA grow tax-free, and withdrawals in retirement are also tax-free, these tax benefits allow your contributions to grow all the way until they are withdrawn without being taxed.
Given the long time horizon your child will likely have before retirement, even relatively modest contributions made during childhood can grow significantly, thanks to the power of compound interest.
Flexibility and the Power of Time
While Roth IRAs are intended for retirement savings, they offer flexibility that can be advantageous for young account holders. Contributions (but NOT earnings) can be withdrawn at any time, tax-free and penalty-free.
The Roth IRA also allows for penalty-free withdrawals for qualified education expenses, a first-time home purchase, or certain other exceptions. This makes the Custodial Roth IRA a versatile account that can serve multiple financial goals throughout a child’s life, and support them however they see fit.
Starting a Roth IRA early also gives the child’s investments decades to grow. This means that if you are interested in investing for grandchildren, Custodial Roth IRAs may be a great option and a powerful vehicle for building long-lasting financial security.
UTMA Account
Lastly, we have another invaluable tool for parents and grandparents looking to save and invest on behalf of their child – a UTMA account.
UTMA stands for the Uniform Transfer to Minors Act, a law that allows a minor to receive gifts (like money, patents, royalties, real estate, and fine art) without the aid of a guardian or trustee. A UTMA account allows the person giving the gift or a chosen custodian to manage the account for a minor until they are of age.
Control and Ownership
UTMA accounts are a particularly attractive option for those who want to gift assets to their child but are unsure of their financial responsibility.
A UTMA account is a custodial account, meaning the assets are held in the child’s name but managed by a custodian—like you as a parent or grandparent—until the child reaches the age of majority (which varies by state, usually 18 or 21). At that point, the child takes full control of the account and can use the funds for any purpose. This could be for education, buying a car, starting a business, or any other expense.
This flexibility allows your child to use the funds however they choose, but once they are of age to make responsible decisions.
Potential Drawbacks
With a UTMA account, the minor’s Social Security Number (SSN) is used for tax reporting purposes – meaning that they may have an impact on financial aid or scholarships down the line. This also means that the child is responsible for paying taxes on any investment income earned from the account. UTMA accounts are taxable accounts, so it’s important that your child understands their responsibility with the funds from the UTMA account and is prepared for the tax implications of the gift.
It’s also important that you, as the parent or grandparent, realize that once your child or grandchild reaches the age of majority, they are in control of the funds. You are solely stepping in as a custodian of the funds until this time, so you must be aware that they could potentially use the money in ways that you don’t intend them to.
The beneficiary of a UTMA is also non-transferable. Once you set aside the funds for your child, it is their money. These are important aspects to consider before gifting significant funds to a minor.
Bottom Line
Establishing a solid financial foundation for your child or grandchild is one of the most impactful gifts you can give. By strategically utilizing a combination of a 529 College Savings Plan, a High Yield savings account, a Custodial Roth IRA, and a UTMA account, you can address both the immediate needs and long-term goals of your child or grandchild.
Each of these accounts offers unique benefits, from the tax advantages of the 529 plan to the growth potential of the Custodial Roth IRA and the flexibility of the UTMA account. Together, they provide a balanced approach that can adapt to your child’s changing needs as they grow.
As affluent Gen X parents and grandparents, you have the opportunity to pass on not just your wealth, but also financial wisdom! By teaching your child or grandchild the value of saving, investing, and responsible money management, you can equip them with the tools they need to navigate life’s financial challenges with confidence.
These early financial decisions can greatly compound over time. Now is the time to act. Set up these accounts, contribute regularly, and involve your child in the process.
Want to work with a professional to create a plan that best suits your child and your financial goals for them? Let’s chat! At Concurrent Financial Planning, we are here to help you reach your financial goals for you and your family with confidence and clarity
