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Kids and Roth IRAs – Start Them Early on Saving for Retirement

Published on June 30, 2022

When it comes to a Roth IRA, it turns out a person is never too young to put their earnings into this type of retirement account—even teenagers with summer jobs.

Sure, a teen or younger child won’t be thinking about the need for retirement savings—but as we adults know, the longer the time those funds can earn interest, the better. And let’s face it, that 0.1% APY on their savings account just isn’t cutting it.

With a Roth IRA, the contributions are taxed going in, grow tax free, and can be withdrawn tax free as well (when certain criteria are met). Although the Roth account owner doesn’t get a tax deduction on the contributions, most teens don’t earn enough to pay taxes on their earnings anyway. Regardless of their earning level, young workers can invest their money in a Roth IRA and get an early start on long-term savings.

Roth IRAs for minor

There is no minimum age to open a Roth IRA; the one rule that applies to anyone is that the person must have earned income. Therefore, as soon as your child is old enough to start earning money—whether as a W2 employee or as a babysitter—he or she can open an account and start making contributions. At Next Generation, we recommend you consult your trusted tax advisor regarding any self-employment income your child earns and the best recordkeeping practices in case of an audit.

Children cannot open a Roth IRA in their own name until they become legal adults at age 18 or 21, depending on the state of residence; therefore, a parent or guardian must open a Roth IRA for minors and serve as the guardian who maintains control of the account. This includes making decisions about contributions, investments, and distributions (if applicable). The guardian will also receive the account statements. However, the funds in the Roth IRA are for the benefit of the young person only. Upon reaching legal adult status, the assets are transferred to a new Roth IRA in their name.

Young savers don’t have to fork over all their earnings to build up their Roth IRA funds. Parents and other relatives can match the contributions or make a deposit equal to the entire amount your child has made up to the annual contribution limit of $6,000.

Using contributions for education

If your child plans to attend college and completes the FAFSA (Free Application for Federal Student Aid), rest assured the form does not look at the money in the child’s Roth IRA, so this will not affect his or her eligibility for financial aid. The CSS profile also excludes the IRA holdings from eligibility considerations.

However, if your child plans to tap some of the IRA contributions to defray college expenses, be aware that the distribution counts as income on subsequent FAFSAs. Therefore, the student should be careful about timing a withdrawal; the FAFSA uses financial information from two years earlier for a given academic year.

For those interested in saving for college or other education expenses, you can also open and self-direct an Education Savings Account (ESA).

Building a more robust Roth IRA through self-direction

Adults who are versed in the ways of self-directed IRAs, or the investments that can be held within them, can help their children invest in more than just stocks, bonds, and mutual funds with a self-directed Roth IRA. In today’s volatile market, some lessons on how to build a hedge against that volatility will serve them well in the future.

Guardians on the account will have many opportunities to teach their kids about the benefits and rewards of disciplined saving, and how investments work. They will also be able to share the many diverse types of alternative assets allowed in these and all other self-directed retirement plans—and develop the next generation of savvy, self-directed investors.

When it’s time for your child to take charge of their self-directed Roth and their financial affairs in general, they will see how the habit of saving money now serves them well into their adulthood. They’ll also have some firsthand experience investing in alternative assets, thanks to their parents’ investment lessons. If they remain disciplined about making retirement plan contributions and continuing to invest in alternative assets they know and understand, they will build up an impressive and diverse nest egg over the course of many decades.

Opening a self-directed Roth IRA at Next Generation

At Next Generation, we’re all about helping individuals build their retirement savings through self-direction—and that includes teens and young adults who are decades away from retirement.

If you wish to open a self-directed IRA for a minor, the Next Generation team will make sure the account is set up properly, and when your child reaches legal adult age, we will transfer account ownership and the assets into his/her name. As a full-service self-directed retirement plan administrator and custodian, we custody the assets and provide all necessary recordkeeping and tax reporting, as well as comprehensive account and transaction support.

If you’d like to set up a complimentary educational session for you and your child, we’d love to share the many options and benefits of self-direction as a retirement wealth-building strategy, and can answer your questions about how to make contributions (for you and your child). Alternatively, you may contact us directly via email at NewAccounts@NextGenerationTrust.com or call us toll-free at (888) 857-8058.