You’re doing everything you can to make sure that your baby has a strong foundation for a happy and healthy life. You’re feeding his body and brain and making plans for his early years, his education, even his college years. You might consider making one more investment in your baby’s future:Take a brown bag lunch to work every day. If you save $10 a week by skipping those lunches out and invest it for your child, your little one will have a little fortune awaiting him when he turns 18: almost $50,000 if you’re getting a 15 percent return on your money. If your child keeps up the monthly contributions once he’s gainfully employed, he’ll have in excess of five million dollars in time for an early retirement at the age of 50. Not a bad return on the price of lunches out, is it?
To make this scenario work out, there are a few decisions you need to make:
- What kind of account will you set up? An IRA is one option. The IRA provides you with a tax deduction in its traditional form, but a Roth IRA, which is taxed at the time of deposit rather than withdrawal, allows your child to withdraw money without penalties for any reason, unlike the traditional IRA.
- What are you going to put in the account? A mutual fund? CDs? Stocks? An index fund? An interest bearing checking or savings account? Remember that you’re making a long-term investment, so you have time to weather the ups and downs of the market, and the stock market has proven to be the most profitable place to park your money, so long as you’re not risk averse. An index fund allows you to follow the market without making any bets on a particular stock. A mutual fund can diversify your portfolio without much time or trouble spent on your part.
- Who will own the account, you or your child? Are you the owner, the guardian? Or are you the custodian, holding the money for your child? If you own the account, you also pay taxes on it. If your child does, you still control the account until your child is 18 or 21, but dividends and withdrawals are charged at your child’s rate, which can be a great savings for you. If you are interested in being a custodian, look into the Uniform Gift to Minors Act (UGMA), which allows you to give gifts of money, stocks, life insurance, and annuities to your child while you are alive, and the Uniform Transfer to Minors Act (UTMA), which allows you to control the money until your child is as old as 25 and to give your child other assets as well, including real estate, paintings, jewelry, and patents. Remember when selecting a UGMA or UTMA that neither can be used to pay for the support of your child as they grow up.
No matter which answers you give, a bank, mutual fund company or brokerage discount or other institution will be able to help you set up the account of your choice. To make sure that you get the advice and the account you need, do your homework and shop around. Not all financial institutions and their representatives know how to meet the special needs of parents looking to secure the financial futures of their children.
While you’re underwriting your child’s future dreams and ambitions, make sure that you take the time to educate him or her about saving, investing, financial responsibility, and the beauties and potential of compound interest. Let him witness, or even participate in, the decision making process as soon as he is able to. Obviously, your child is now many years away from caring about or understanding wise investments, but by planning ahead for his dreams and by sharing your plans with him, you’re not only giving your child security, you’re also giving him the opportunity to gain skills and knowledge that will serve him, and his own children, well.
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