ôô

How to Make Kids Rich by Investing in an IRA

Ever wanted to make sure your kid will end up rich? The secret to having a secure future or paying for college could be setting him or her up with an IRA--an underutilized vehicle that many people miss. Laura explains the benefits of starting an IRA for minors, the rules for eligibility, how to open an account, and when you can spend the money penalty free.

By
Laura Adams, MBA,
April 12, 2017
Episode #493

Page 1 of 4

How to Make Kids Rich by Investing in an IRAA little-known benefit of an IRA (Individual Retirement Arrangement) is that kids can have them too—if parents follow some simple rules. Setting Junior up with an IRA is a smart way to provide a head start to pay for retirement or even a college education.

In this post, I’ll explain the benefits of starting an IRA for minors, the rules for eligibility, how to open an account, and when you can spend the money penalty free.

Free Resource: Retirement Account Comparison Chart (PDF download)  - get this handy, one-page resource to understand the different types of retirement accounts.

If you want to help your child supercharge building his or her own wealth and learn the fundamentals of investing, you can’t beat an IRA. You can open and manage the account on his or her behalf until they become an adult.

Imagine you help your child put $500 in an IRA every year from age 15 to 20. Even if he or she never contributes another penny to the account, at age 65, assuming an 8% average annual return, the account would be worth about $95,000.

But if your child continued making annual contributions of $500 every year from age 20 to 65, his or her IRA would be worth over $285,000. Kick those contributions up to $1,000 per year and there’d be close to $575,000 in the account. Try $5,000 a year and the account would have almost $3 million!

But if you don’t get started until middle age and only have 20 years before retirement, you’d have to invest $12,500 per year to accumulate $575,000. The more time your money can grow, the easier it is to build wealth.

Even putting away small amounts over a long period of time can make you quite wealthy. Investing just $125 a month for 50 years at an 8% average return would give you $1 million to spend in retirement.

If parents have a little foresight, they put a child on the right path by showing them that when you make investing a habit it’s easy to create financial independence.

Even putting away small amounts over a long period of time can make you quite wealthy. Investing just $125 a month for 50 years at an 8% average return would give you $1 million to spend in retirement.

Who Can Have an IRA?

Many people don’t realize that kids can have a retirement account. You can make contributions to an IRA when you (or your spouse if you file a joint return) receive taxable compensation during the year. With a traditional IRA, the only restriction is that you can’t contribute after age 70½.

Roth IRAs don’t have an age limit, but they do come with income limits that prohibit people with high incomes from contributing. Unless you’re raising the next Mark Zuckerberg, your child isn’t likely to cap out the earnings threshold. This is one of the reasons why a Roth IRA is a great savings vehicle for kids. I’ll tell you more about their benefits in a moment.

So, if a child earned money during the tax year, you or your child can contribute as much as he or she made, up to the annual limit, which is currently $5,500. But the tricky part about IRAs for minors is that their earned income must be documented.

That means you can’t fund an IRA for an infant or toddler who can’t legitimately earn income. You can’t pay an 8-year-old a cash allowance for household chores and call it income for the purposes of an IRA without proper documentation. Additionally, you can’t pay kids an outrageous rate, like giving your teen $1,000 to wash your car, and then put it in an IRA.

See also: Can You Contribute to a 401k and an IRA in the Same Year?

Pages

You May Also Like...

Facebook

Twitter

Pinterest