Once you become a parent, you face costs ranging from daycare and summer camp to medical bills, college and more. Being strategic about how to save money for kids will set you up for financial success, help get your children off to a solid financial start and teach them the value of saving. Since the various savings options can seem almost as overwhelming as the expenses themselves, we’ve compiled this handy list of ways to save for kids. Take a look and decide what’s best for you and your family:
1. Investment account
Investment accounts allow you to grow savings over the long term by participating in the stock market. Consider opening a custodial brokerage account, where you can invest on behalf of your child. You can work with a financial advisor or robo-advisor—a platform that uses algorithms to manage portfolios—to select stocks, bonds, and mutual funds. One thing to keep in mind is that while you manage these accounts when your child is under 18, the account is automatically turned over to them once they come of age. In some cases, this works well, but some parents may want to opt for a means of saving that gives them more control once their children become adults.
2. Roth IRA
A Roth IRA is an individual retirement account that brings tax benefits when used for education expenses. You fund it with after-tax money (income that you have already paid taxes on). When you turn 59 ½, you can withdraw your Roth IRA contributions and earnings without having to pay a tax penalty. While you will pay taxes on the earnings, you can also withdraw money before you reach that age without penalty as long as you are withdrawing it to pay for higher education costs for your child. Your child can also open and contribute to their own Roth IRA if they have earned income, which is a great way for them to learn financial responsibility. Starting early can have a big impact due to the power of compound interest, allowing the funds to grow exponentially over time and provide a financial boost for your child in their retirement
3. High Yield Savings Account
High yield savings accounts, which pay higher than average interest rates, are a safe and accessible option for saving money for your children. These accounts typically have no or low minimum balance requirements and can help teach your child the value of saving and the concept of earning interest. Having savings accounts for your kids allows them to take an active role in managing their money, especially once they become teenagers and open a checking account and have a debit card.
4. Certificate of Deposit (CD)
Certificates of Deposit (CDs) provide a fixed interest rate over a specific term, ranging from a few months to several years. With a CD, you and the financial institution agree that they’ll pay you a fair amount of interest on the sum you deposit, providing you don’t touch it for the agreed-on period. Once the time is up, you get your initial deposit back, plus the interest the financial institution owes you. Because these accounts are insured by the Federal Deposit Insurance Corporation or the National Credit Union Administration up to a certain dollar amount, your CDs are safer investments than stocks or bonds.
The interest rates on CDs are usually higher than those of a typical savings account. CDs are low-risk and can be a good way to save for short-term goals, such as funding a specific purchase or building an emergency fund for your child. Consider staggering CDs with different maturity dates so you can access funds at various points in your child’s lifetime while earning higher interest than a traditional savings account.
5. 529 Plan for College
A 529 plan is specifically designed to save for education expenses. These plans offer tax advantages, contributions grow tax-free and withdrawals are tax-free when used for qualified education expenses. 529 plans come in two main types: general college savings plans and prepaid tuition plans.
The general college savings plan allows parents to save money for their child’s education at any qualifying college or private K-12 institution. Contributing to a state’s 529 plan may also offer a tax deduction, and withdrawals used for qualified education expenses are exempt from federal income tax.
Prepaid tuition plans, on the other hand, lock in current tuition rates for public institutions, providing valuable cost certainty. Some can also be converted to cover private and out-of-state colleges. However, the general college savings plan offers more flexibility, making it a preferred choice for most families.
With 529 plans, it’s important to keep in mind that the funds are earmarked for certain education expenses and not others. For instance, you can’t use them for travel expenses or commuting to school. Making non-qualified withdrawals from the account may result in a tax penalty, so it’s crucial to use the funds for qualified education expenses.
6. UGMA and UTMA Accounts
These are custodial accounts that allow you to save and invest on behalf of your child and are not tied to education expenses. Since they can be used for expenses other than school, they offer more flexibility than 529 plans.
The Uniform Gift to Minors Act (UGMA) permits accounts that allow someone under 18 to own securities (stocks and bonds) without requiring a trustee or prepared trust documents. The Uniform Transfer to Minors Act (UTMA) permits custodial accounts that are similar to UGMA accounts but also allow minors to own property such as real estate and fine art. These accounts offer flexibility in the types of assets that can be held and can be used for various purposes, such as funding education or providing financial support when they reach adulthood. However, similar to investment accounts, keep in mind that the child gains control of the account when they reach the age of majority, which varies by state. Also, these accounts may not have the tax benefits of some of the other accounts mentioned above.
7. Health Savings Account (HSA)
While primarily associated with ongoing medical expenses, an HSA can also serve as a savings vehicle for your child’s future health care costs. Contributions to an HSA are tax-deductible, and the funds grow tax-free. Withdrawals for qualified medical expenses are also tax-free. Once you reach the age of 65, you can withdraw money for any reason, subject only to regular income tax (similar to a traditional 401(k) or IRA).
For families with a family health plan, each adult child covered by the plan can open their own HSA, allowing for individual accounts. These accounts offer a dedicated way to save for health care costs, which can be a good way to ease your child’s transition into adulthood.
If you are ineligible for an HSA, you can explore flexible spending accounts (FSAs) offered by employers for health care expenses. FSAs also provide tax benefits, but contribution limits are typically lower than those of HSAs. It’s also important to note that while HSA balances roll over year after year and can be invested, cash in an FSA generally must be spent within a designated period (e.g., calendar year) or be forfeited.
Bellco is not providing you with any legal or tax advice. Please speak to a qualified lawyer and tax advisor for more information about the tax benefits and consequences of using these types of accounts.
To learn more about how to save money for kids, and for expert guidance from financial advisors as you navigate the process, check out Bellco’s investment services and resources.