Someone asked me a my opinion on which investments to establish for their children. I thought others may be interested so I’m posting my response for everyone. There are several great options for investing on behalf of your children.
Disclaimer: I am not an investment adviser. Information presented here is purely for informational purposes. For detailed advice, be sure to speak with an investment professional before making a decision.
If you are saving for college, consider establishing a 529 plan. These are savings plans designed for saving toward future college costs.* They are usually referred to as “tax advantaged” meaning withdrawals made for the cost of tuition are typically not taxed. The beneficiary to these accounts are also fairly flexible. So if you have funds leftover after paying for your first kid’s tuition, you can use the remainder to cover another child. There are two types: prepaid tuition plans and college savings plans.
Prepaid tuition plans allow you to purchase credits at college and universities as current prices, for future tuition and related fees. Most prepaid tuition plans have residency requirements and can only be used at participating institutions. That means if your child opts to go to a school that doesn’t participate, you wouldn’t be able to use it. These plans also typically do not cover room and board costs.
College savings plans are investment accounts that anyone can contribute to, and future withdrawals can usually be used at any institution to cover costs of tuition, fees and room & board. These plans usually invest in mutual funds, ETFs and related investment types.
Custodial Brokerage Accounts
If you are looking for greater flexibility, custodial accounts are a great avenue. Custodial accounts are brokerage accounts that allow you (or the appointed custodian) to contribute to and manage like you would your IRA or other personal investment account. Once the child reaches adulthood (usually age 21, the age of majority varies by state), ownership transfers to the beneficiary.
These accounts offer maximum flexibility in how the money is invested and for what purpose the money is used, with the caveat that you generally cannot change the beneficiary. Using this strategy, you can contribute up to $15,000 per year without worrying about gift tax implications. If you are married your spouse can also contribute up to $15,000 per year.
These plans are great if you want to be able to help your kid purchase their first home, pursue entrepreneurship, or pretty much any other intended purpose.
Yes, you read that right! Anyone under the age of 70 1/2 can contribute to an IRA, provided they actually earn income. That means, if your kids has a job, or if they work for your business, you can set up an IRA for them. The bonus here is that you can withdraw funds penalty free to pay for college. This provides similar benefits as the strategies discussed above, but more freedom to guide the investments.
I love the idea of including non-traditional investments in my portfolio, after all diversification is the name of the game.
Consider the feasibility of purchasing and holding real estate on behalf of your child. You could hold vacant land to sell or develop later, or an occupied property that earns income, which you use to fund a 529 or custodial account. This strategy would have tax and estate complexities, but can be worth the time spent planning.
What strategies look appealing for your babies? Let me know in the comments.
*Note: Under the latest tax changes, 529 plans can also be used for private school tuition for younger children, in addition to college costs.