Investing for your children might be a strange concept to grasp – children don’t usually have income, so why would they need you as a caretaker to add yet another financial responsibility to your plate? The answer is more forward-looking than anything. Time is on your side, as investments rely on growth. The earlier you invest for your child’s future, the longer you will have to save, the more you can contribute and the more it will all grow. If you want help investing for your children’s future, consider working with a financial advisor.
Advantages of Investing for Your Kids
There are several advantages to investing for your kids, and all of them revolve around time. First, compound interest can help the money grow faster than it would if it were only growing using simple interest. Second, the investments wouldn’t be beholden to the relative volatility of a shorter time in the market – it would be able to ride the waves of the market over a longer period. Taxes on custodial accounts are usually a bit more manageable and can help kids learn some tax basics that will help them for the future. Finally, exposing young adults and kids to the processes and aids them in thinking about the goals they want to set for themselves in the future. Some shorter-term goals can be growing and setting some money aside for college or a car. Some longer-term goals can look like saving up for retirement.
Opening a Custodial Account
Minors can’t have access to their own accounts, but parents and guardians can open a custodial account for them. Custodial accounts require the guardian’s legal information and the minor’s information as well. Account types for investing depends on the type of investment. Earned income will play a large factor.
Types of accounts may include:
- Roth IRA – If your child does have income or wages that are taxable, you can open a custodial Roth IRA for them
- 529 college savings account
- Traditional savings account, money market account or CD account – usually have favorable interest rates
- Brokerage account – If your child doesn’t have income or wages, it may be possible to open a custodial brokerage account. The child can take control once they reach 18 or 21, based on laws that vary by state.
Especially when opening a brokerage account, it’s important to look out for factors such as potential minimum amounts and any brokerage fees. Talking about these with your child may help them understand the importance of this habit as well, especially when it comes to things that affect them in this way later on, like purchasing a new product or service and paying their own bills.
Including Your Child in the Financial Process
Having your child as involved as possible in this whole process is key – otherwise, the onus falls on you as the guardian to be entirely responsible for yet another account. The trajectory of your conversations should always begin with the basics.
Some questions about budgeting that you can cover together include:
- How much do I have right now?
- What are my needs? How much do I need for them?
- What are my wants? How much do I need for them?
- Of what’s left over, how much might I want to save? Donate? Invest?
Some questions about investing that you can cover together include:
- What does it mean to invest? What kinds of investments are out there?
- What is a gain and what is a loss?
- What are certain kinds of risks? What are possible rewards that could be associated with them? What are possible losses that could be associated with them?
As your child gets older, there are other tools such as stock simulators to help them visualize more detailed information. As you do this, it could be a good idea to introduce them to what stocks are in general, and maybe pick a couple of them for a portfolio (maybe companies they already recognize) in order to familiarize them with what it means to invest in a particular company. Generally speaking, however, many sources suggest that it’s a good idea to incorporate index funds for a majority of the portfolio.
Investing can be overwhelming in and of itself – and even more so when you’re trying to teach a younger person the ropes without the adequate resources. The good news is that there are a number of types of accounts that you can open for them so that they can get a sense of how this all might work. When having family conversations about budgeting and investing, it’s always good to start with the basics and see what more you need to do from there.
- If you’d like further expert advice as you consider your family’s finances, it might be a good idea to speak to a professional. Finding a qualified financial advisor doesn’t have to be hard. SmartAsset’s free tool matches you with up to three financial advisors in your area, and you can interview your advisor matches at no cost to decide which one is right for you. If you’re ready to find an advisor who can help you achieve your financial goals, get started now.
- Determining your overall estate planning needs is an important step to make sure that your financial affairs are in order – especially if something happens to you and you aren’t able to make your own decisions. Use our comprehensive estate planning guide to understand all of the components of estate planning.
Photo credit: ©iStock.com/Prostock-Studio, ©iStock.com/Sasiistock, ©iStock.com/OJO_Images