|Start your kids on the Roth road
"We're constantly in communication with clients
about the benefit of using that income in a Roth IRA," says
Tammy Virnig, principal of the retirement resource center at Vanguard.
"We try to help parents who are trying to help
their kids save. Many clients call us with the Roth already in mind.
I've had calls from godparents and grandparents saying, 'I don't
want to give another toy.'"
If the child is a minor, an adult will have to open
the account and be appointed as custodian until the child reaches
Long-term liquid dangers
And there's always the chance that when that magical day of
majority arrives, Judy or Johnny will decide to clean out the account
and buy a car. If that happens, the gains will be taxed and the
IRS will impose a 10 percent penalty for early withdrawal. So, be
sure your teenager understands and is willing to let the money grow
until age 59½. Otherwise, you may want to consider an alternative.
"The Roth is a nice thing to do, but what's the
objective," asks Robert Kuehl. "Most people don't want
to lose control over the money, and with the Roth they have to hand
it over to the child at the age of majority. There goes your big,
beautiful Roth IRA because you can't stop them. So, if that's going
to be an issue you'd want to go with a 529 (college savings plan)
or a trust."
Contributions to a Roth can always be withdrawn penalty-free,
and there are penalty-free provisions for withdrawing Roth earnings
for education or a first-time home purchase. That is, money can
be taken out penalty-free for education, but the gains are taxed.
With a first-time home buyer, the earnings are tax-free.
But many experts say it's best to explore other options
for those purchases. The Roth is meant to be a retirement account.
Interrupting the tax-free growth of a Roth is self-defeating.
Starting a Roth for a minor
Some banks will let you open a Roth for as little as $100.
You'll pay more at a brokerage, but you may find more investment
choices at a brokerage. There are other factors to consider.
Fees can gobble up a small account. Look for banks
or brokerages that charge no fees for IRAs or very low annual fees
or low balance fees on accounts for minors.
"Look at the cost of investing when picking out
funds," says Vanguard's Tammy Virnig. "Not just if there's
a fee to open an account, but the expense ratio of the fund. Get
the best for your money."
When setting up an account, look for professional
guidance in selecting investments. A substantial amount of risk
can be taken because the time horizon is so long. But that doesn't
mean the account should be filled with penny stocks. An investment
adviser can help with the best mix of growth and value stocks and
Remember, this is your child's future at stake. Investing
in a few of the better companies that make the products kids buy
can make investing more interesting for a teenager. Take time to
explain the monthly or quarterly statements and you'll give your
child a hands-on understanding of how investing works.