The greatest resource any investor has isn’t necessarily money, information, or even influence. It’s time. The more time you have, the longer you have for your investments to grow, and for something called compounding to work.
Likewise, the best way to secure the financial future of your children is to start teaching them about money early. One potentially great way to do that is by opening a bank account for them.
There are two types of savings accounts to consider for kids: Savings accounts and custodial accounts. Both work differently than their adult counterparts, and you’ll need to know the ins and outs of these accounts before you drag Junior to the bank to open one up.
Why open a savings account with your child?
You can sit your kids in front of a book and hope they absorb the material, but as far as children and learning go, practical experience goes a long way.
The physical act of depositing cash or checks, checking an account balance, or watching interest accumulate can help teach your kids about money and financial responsibility. And these activities will hopefully become habits that keep your children saving and investing as they grow up.
Opening a bank account with your children can teach them the basics of money management, and some of the day-to-day habits necessary for financial stability.
Get them hooked on good habits, and you’ll set them up for success.
What should I look for in a child’s savings account?
A savings account should encourage kids to do just that—save their money. To that end, the account should have three characteristics:
No fees. Many banks charge annual fees, but they’ll discourage kids, who don’t want to see their money eaten up by a bank. Shop around for accounts that don’t charge maintenance or minimum-balance fees.
A debit card. Having a card with your kid’s name on it can build confidence and imply a sense of importance. Get a card, and teach your children how to keep it, and the personal identification number (PIN), safe.
A favorable interest rate. If children can see their money growing at a constant rate, they’ll be encouraged to save even more. Make sure the account has the best possible interest rate in order to reap the highest rewards.
How old do my children have to be to open an account?
Children who are 18 or older can open their own accounts. If they are under that age, you’ll have to open a joint account with them.
Being co-owner of a joint account doesn’t give you complete control over it. However, it does give you and your children significant advantages in savings, investing, and managing taxes.
Can kids invest?
Yes–along with an adult.
Children can learn about investing through custodial accounts, an account that’s overseen by a parent or guardian, but managed for the benefit of the minor. Once you’ve funded the account, you can invest the cash just like you would in any other investment account, in stocks, bonds, mutual funds, and ETFs.
A custodial account can teach kids about investing and the stock market, along with the potential tax benefits and penalties that come with a return.
These accounts, too, have their own advantages and pitfalls, and it’s best to know each before you begin.
What should I know about custodial accounts?
People often use custodial accounts to for save for college, but they aren’t strictly college savings accounts.
Advantages of custodial accounts
High contribution limits. There is no limit to how much a custodian can deposit into a custodial account, but the custodian may trigger something called the gift tax for the amount of $15,000 or more annually. For married couples, the limit is $30,000, as of 2018.
Some custodial accounts aren’t ‘cash only’. Some custodial accounts allow donors to contribute not only cash, but stocks, annuities, bonds, life insurance, or even paintings. That means they aren’t just savings accounts– they’re portfolios.
Custodial can be used for other things besides college costs. Once they’ve reached adulthood, the beneficiary can use the funds for anything, such as a car, a house, even a graduation party.
Disadvantages of custodial accounts
Custodial accounts may count against financial aid. Even though custodial accounts aren’t necessarily college savings accounts, their value can be counted as part of a student’s assets when applying for financial aid.
Custodial accounts can be taxed. The custodian can put up to $15,000 into the account annually, without triggering the gift tax for 2018. (For married couples, the amount is $30,000.) The gift tax is a federal tax on any transfer of assets from one person to another that exceeds these amounts. The first $1,050 of income, or capital gains, from the account is not taxed annually. After that, it’s taxed at the child’s rate, generally between 10% and 15%.
Any amount over $2,100 is then taxed at the custodian’s higher individual income tax rate, according to the most recent information from the IRS.
It’s always best to consult a professional tax advisor to discuss tax considerations.
How can I use savings and custodial accounts to teach financial literacy?
It’s nice to imagine your children retiring early, owning a large home, or any of the other advantages that might come with having money already saved at a relatively young age.
The money isn’t the most important gift, however.
Savings and custodial accounts can help teach kids good financial habits. Go with your children to make deposits. Check their account balances with them. Or if their money is invested through a custodial account, show them what they’re invested in, and help them keep track of what they have. Good financial habits acquired in childhood can last well into adulthood.