As Soon as My Kids Have Income, They'll Be Opening This Type of Brokerage Account
KEY POINTS
- Kids can open investment accounts as soon as they have earned income.
- Roth IRAs offer the chance to enjoy tax-free growth and tax-free withdrawals.
- The younger someone starts investing, the longer the time window they have to enjoy the benefits of compound interest.
My kids are ages 4 and 2, so they sadly aren't really earning any money of their own at the moment and they probably won't be for quite a while. But, as soon as they get their first jobs, I have plans for what they'll do with some of the money. They will each be opening a Roth IRA.
Here's why.
Opening a Roth IRA can make my kids rich with very little effort
Once my kids start earning any money, I'm going to insist they open a Roth IRA with a brokerage firm because doing so can help to set them up to be wealthy retirees with almost no effort on their part.
See, a Roth IRA is a tax-advantaged account. When you contribute to it, you don't get to take a tax deduction like you would when you contribute to a 401(k) or an IRA. But the money grows tax free and you get to make tax-free withdrawals as a senior.
When my kids start earning money, they're very unlikely to make enough to actually owe taxes. That makes it an ideal time to contribute to a Roth IRA because they will not be taxed on the income they're investing in this account anyway. The money they invest can grow throughout their entire lifetimes so they benefit from compound growth. And once they get to retirement age, they will end up being able to withdraw the funds without having to pay a penny of income tax.
Unfortunately, you can only contribute up to the amount of earned income you have -- which is money you earn, not funds gifted to you from a parent. So they can't invest until they begin earning money. Once they do, I plan to have them invest 100% of what they make (up to the annual contribution limit), and I'll give them a gift equal to 75% of what they invest so they'll still get to keep most of what they earn for fun spending -- while also getting set up for retirement.
How big of an impact will this make?
While it may seem premature to worry about retirement savings when you're a teenager, the reality is making a few small contributions early on can set my kids up for a very secure future.
Let's say that my kids manage to invest $2,500 a year from age 14 to age 18. They'll have $12,500 in their accounts by their 18th birthdays. If they never invest a single additional dollar and they earn 10% average annual returns for 50 years, when they turn 68 they will each have a nest egg of close to $1.5 million. And they will be able to withdraw all of that money tax free since that's how Roth IRAs work.
The reality is, starting to invest at a young age -- especially when you take advantage of tax breaks -- can make a profound impact on your future. If you have kids who are working or who will be soon, help them invest as much as possible in a Roth IRA. They will absolutely thank you later when they effortlessly become a millionaire retiree.
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