As parents, we want to set our kids up for success and a huge part of that is setting them up for financial success. Not only do you want to save for their future, but you want to teach them how to save as well.
Many people wonder, does this include investing? And the short answer is yes, your child can absolutely start investing. But there are a few things you’ll want to know before getting started.
A Quick Disclaimer
Before laying all the tips out for you, I want to add a quick disclaimer. Before you start investing money in your child’s future, please make sure you have your own finances in order.
That means paying off your debt, saving up a six-month emergency fund, and saving for your own retirement first. It’s hard to teach your kids financial responsibility if you haven’t fully learned these lessons yourself.
If you need help with this, The Budget Mom’s 9 Steps to Financial Freedom will be a good starting point for you.
Choose the Right Account
Technically, financial institutions cannot allow kids to open an account until the age of 18. So if you want them to start investing, you’ll have to open an account for them.
There are two accounts you can choose from — custodial accounts or guardian accounts. These two accounts are similar with the main difference being that a guardian account is owned by the parents.
You own the money in the account and can make deposits or withdrawals as you please. You’ll also pay taxes on the earnings. A guardian account may contain money that’s set aside for your child but it’s your responsibility to manage it.
In comparison, a custodial account belongs to your child. While they’re under the age of 18, you have control over the account. But once your child is an adult, the account will be theirs alone.
Withdrawals or dividends earned will be taxed to your child. Many people choose to go this route because they earn a much more favorable tax rate.
How to Choose a Broker
Once you choose the type of account you want to open, you’ll need to select a broker. Many brokers charge trading fees, so you’ll want to keep this in mind when you’re considering your options.
Ideally, you’ll choose a broker with no fees and that will let you open the account with a small initial deposit. You also want to choose a brokerage firm that gives you access to a wide variety of stocks, bonds, and mutual funds. If you're unsure where to start, check out Ellevest.
You’ll also want to choose a broker that provides resources you can use to teach your child more about investing. You’re not just setting aside money for your kids to spend someday — you’re teaching them how to save and invest in their future.
Teach Your Child How to Invest
Investing in your child’s future is important but it’s only helpful if they know how to manage that money as an adult. Kids need to learn how to live within their means and to start planning for their future early on.
You can do this by including your child in the process. Let them start saving their own money and deposit it in their brokerage account.
You can also let them help you decide what to invest in. For fun, you can let them choose an individual stock they’d like to invest in. Then involve them in the process of choosing the rest of their investments, like index funds or ETFs.
Most importantly, have them check their brokerage account periodically. It will be fun for them to monitor any gains or losses they incurred. It’ll also provide a lot of opportunities for you to teach them about the long-term benefits of investing.
Don’t Forget About Tax Implications
Even if you choose a custodial account in your child’s name, there are still tax implications that come with that account. If your child earns more than $2,200 in dividends, they’ll have to pay taxes on those earnings.
However, the IRS does have different regulations for children with unearned income. As the parent, you may be able to include the income on your tax returns. To do this, you’ll fill out Form 8814 and attach it to your own yearly tax returns.
Even if you plan to take care of the taxes yourself, make sure you show your child what they owe in taxes. This is another good lesson to help teach your child financial responsibility.
The Bottom Line
We all want to give our kids a better start than we had in life. And what better way to do that by helping them invest their money early on?
Just make sure to consider all of your options and look for a broker with no fees and low initial deposit requirements. Make sure you continue to teach your child good financial habits so they will be well-positioned to manage the money as an adult.
