5 Ways to Pass Wealth to Your Kids

As you continue to get your finances in order, you may also want to help your kids. Perhaps you plan to pay for their college education or assist them financially in some other manner. Here are 5 ways you can pass money (and wealth) to your kids.

1. Teach them good money habits. The first way to pass wealth to your kids is to teach them good money management skills. You can do that by modeling good financial habits yourself and by helping them learn how to handle money from an early age. Life can be unpredictable. Unexpected events or expenses can occur that may deplete your cash flow or alter your finances. Teaching your kids how to manage money, build wealth, and invest in efficient ways will help them create an endless number of resources and cashflow that could last years if not generations to come. However, you also have to commit to be a good example yourself.

Modeling good financial habits in front of your kids is vital because it will provide them with an example of how to handle money. This will help solidify the financial lessons you want them to learn. Kids may not always listen to what you say, but many of them copy what you do. Teaching important skills and modeling good financial habits is key.

2. Put money into a Custodial (UGMA/UTMA) account. Another way to pass wealth to your kids is to invest money on their behalf by opening a custodial account. Technically, there are two main types of custodial accounts: a Uniform Gift to Minors Act (UGMA) account and a Uniform Transfer to Minors Act (UTMA) account. Both of these accounts allow you to invest money on behalf of your child as the “custodian” or person in charge of the account. You contribute as much money as often as you like in the account and invest it however you choose. Once your child reaches the legal age of maturity (which can range from 18-25 depending on the state), he or she will get all of the money and assets in the account.

The perk of using a UGMA or UTMA custodial account is that your child can spend the money in this account on whatever they want. If they decide to go to college, they can use it for college. If they want to start a business, they can use it to start a business. If they want to use part of it to pay for a wedding, a down payment on a home, or travel abroad they can use it for those things as well.

3. Invest money in a 529 account. Another way to pass wealth to your child is to help them avoid debt. Although children aren’t born owing money, many teenagers acquire a substantial amount of debt from one key event in their lives: college. If you can prevent your kids from having to take out student loans for their education, then you will have saved them thousands if not hundreds of thousands of dollars in debt. Without debt, your kids will have more money to invest, start a business and pursue their dreams.

One of the ways to prevent them from taking out debt is to pay for their college education. Since the price of a college education is so high, you should plan for this event in advance and invest money for it early. One of the best ways to do that is to open a 529 college savings account. Through this account, you can invest money for your kids’ education in a tax-efficient manner. The money grows each year and accumulates over time. When your kids go to college you then have a substantial sum of money with which to pay for it.

4. Open a Roth IRA. Another way to pass wealth to your kids is to invest money in a Roth IRA. Through a Roth IRA your kid can start building wealth and investing for their own retirement at an early age. Starting as a child allows them to use the power of compound interest to their advantage which can have drastic effects on their net worth as they age. Investing $10,000 from age 15 to age 16 in index mutual funds through a Roth IRA (assuming an average interest rate of 10% per year) will grow to over $1.1 million by the time your kid turns 65. This means their retirement would be fully funded from an investment they made as a teenager!

Helping them make this investment in a Roth IRA as a teenager not only helps them build wealth but it also gives them the freedom to take more risks in their lives. They can start a business, try other investments, and have the ability to live the life as they want. However, in order to make this investment in a Roth IRA, your child has to have "earned income" in which they are paid as an employee or contractor for work. In order for your child to get this "earned income," you can either have them work a summer job or you simply hire them for your own business. For example, you can start a business and hire your kid or launch a website with some family photos and pay your kid as a model. There are several ways you can help your child earn income to invest in a Roth IRA.

5. Start a Trust. Another way to pass wealth to your kids is to talk to an estate planner/lawyer to open a trust. Technically, there are two types of trusts: revocable trusts (in which you can set up the trust for someone but take money in and out of it at any time if you need to) and an irrevocable trust (in which money placed in the trust is permanently there and cannot be withdrawn by you at a later time).

There are various reasons people may choose one type of trust over the other. However, both types allow you to give money and assets to your kids as you see fit. For example, you can place $10,000 in the trust for them to get at age 25. Put $100,000 for them to get after you die. Or, you can place $20,000 in the trust for them to get in increments of $5,000 every 5 years once they turn 18. With a trust, you can make up the rules and have them implemented however you want.

What do you think? Do you plan to pass wealth to your kids using one of the methods above?

Want to invest and build wealth sooner? Use Retirement Accounts

In the last few years there has been increased interest in investing. People from all over the world have downloaded apps like Robinhood to purchase stock in various companies. Some have even used the app to put money in alternative investments like cryptocurrency. Although this desire to build wealth is well-intentioned, there may be a better way to reach this goal: Retirement accounts.
 
Before you roll your eyes and write me off, hear me out (or I guess read me out). Retirement accounts aren’t just for middle aged and older adults who want to stop working in the next few years. Retirement accounts are useful for everyone. Although the original purpose was to help people invest money to use when they reached their 60s and 70s, retirement accounts can be extremely useful to you now, even in your 20s and 30s. The benefits you get by using retirement accounts can help you build wealth much more efficiently. You should consider using retirement accounts to invest money and become financially independent for the following reasons:

1. Using retirement accounts allows you to keep more of your profits– since you pay much less in taxes. Apps like Robinhood are considered taxable accounts. The money you use to invest is taxed, the profits you make are taxed, and the revenue you get after you cash out the investment is taxed. That’s 3 types of taxes! When you invest through retirement accounts you don’t pay nearly as much in taxes. Some retirement accounts like a 401K or 403b are tax-deferred. This means you delay paying any taxes until decades later when you take the money out. With other retirement accounts like a Roth IRA, you invest with money you earned and never have to pay taxes on the profit you make. Plus, you can take out the money you contributed at any time tax-free. My point? Using retirement accounts helps you save money because you pay less in taxes.

2. Using retirement accounts may help you get extra “free” money to invest – since you may get a contribution “match” from your job. Another perk of using retirement accounts to build wealth is that you usually get to invest more money. Retirement accounts are usually offered through your employer in the form of a 401K, 403b, or 457. As part of a benefits package at your job, your employer may offer a retirement account “match.” This is when the job gives you extra money, in addition to your salary, to invest in a retirement account. The amount they give you usually matches the percentage of your salary you choose to invest in retirement accounts. If you invest 5% of your salary, they will “match” your contribution with an additional 5% to put in your retirement account. With this match your job is giving you extra free money to invest with. Why not take advantage of this offer?

3. Using retirement accounts can lower your taxable income – which can decrease your student loan payments. Most of the retirement accounts offered through your job (like a 401K, 403b, or 457) are tax deferred. Since the money is tax-deferred, you don’t have to pay taxes on it until you take the money out years later. This means the more money you contribute to retirement accounts, the less money you owe when you file your taxes each year. It could even increase the amount of your tax refund. Since contributing to retirement accounts lowers your taxable income, it also lowers any income-based repayments that are tied to your income – like your federal student loans. The more money you contribute to tax-deferred retirement accounts, the lower your taxable income and the lower your federal student loan payments. Although interest will still accrue on your loans, this may be a good benefit for anyone currently enrolled in a student loan forgiveness program.

4. Using retirement accounts can help you invest on a more consistent basis – since contributions are connected to your paycheck. If you are a person seeking to invest more money to build your net worth and eventually have enough money to quit your job, pay for your kids’ college, pay off your home, or travel the world, you have to invest. You can’t merely save your way to wealth. Your money needs to make more money and grow. The only thing better than investing your money is doing so on a consistent basis. Year after year, month after month, make investing a habit. Make it routine. Make it automatic. One way to do that is to take advantage of an investment account that is already set up to help you make consistent investments – your work 401K. For some people it may be called a 403b or a 457 or perhaps they are self-employed and have an IRA or solo 401K. Either way, you have retirement accounts at your disposable and these accounts are set up to help you invest on consistent basis every time you get paid.

5. Using retirement accounts gives you more asset protection – since money in these accounts is protected from your creditors. Sometimes unexpected things happen in life. If for some reason you were sued, owed someone a lot of money, or happen to file for bankruptcy, your creditors could garnish your assets and take any money you have in banking accounts or in a taxable account like Robinhood. That is not the case when it comes to most retirement accounts. Retirement accounts offered through your job (like a 401K or 403b) offer much more asset protection because they are protected under the Employee Retirement Income Security Act (ERISA). This means your creditors cannot take the money you have in your work 401K to pay off your debts. If you are named in a lawsuit, the person suing you cannot go after the money you have in your 401K.   

My point? As you start investing, prioritize using retirement accounts. When you use retirement accounts you get better asset protection and more money from your employer. You also pay less in taxes, keep more of your profits, and can invest on a more consistent basis.
 

Want to Invest Money for Your Child? Consider a Custodial Account

Many parents want to set their kids up for financial success. One of the best ways to do that is to invest money on their behalf. Although there are many different investment accounts to choose from, consider opening a custodial account for your child.
 
What is a custodial account?
 
A custodial account is a type of account you can open to invest money on your child’s behalf. Technically speaking, there are two main types: A UGMA (Uniform Gift to Minors Act) and a UTMA (Uniform Transfer to Minors Act). With a UGMA, you can invest money in securities like stocks and bonds on their behalf. With a UTMA, you can invest in securities like stocks and bonds along with additional things like real estate or even put tangible assets like properties and businesses in your child’s name. A UTMA allows you to do everything that UGMA does, plus more. (UTMA’s are not offered in every state so some people are limited to a UGMA).
 
How does it work?
 
You call up a financial institution, like Fidelity, Vanguard, TD Ameritrade, etc, and let them know you want to open a custodial account for your child. The account will be in your child’s name and you will be the “custodian” or the person controlling the account. You then put as much money as you want into the account as often as you’d like to invest. Once your child hits the legal age of maturity (which ranges from age 18-21, depending on the state) they get all the money in the account. Some states like Florida, give you the option to delay the age in which your child gets the money until age 25, if you want.
 
What are the advantages?

1. It allows you to invest money for your child. By investing money, instead of merely saving it, you will be able to stack up more money for your child over time. If you saved $25 a month for your child starting from the time they were 5 years old, by the time he or she turned 21 you would have stacked $4,800. However, if you had instead invested that money (in index mutual funds which make an average of 10% per year) by the time your child turned 21, he or she would have $10,780. That is more than double what you would have if you only put the money in a savings account! 

2. It provides more flexibility than other investment accounts. Unlike other investment accounts that you can open for your child (like a 529 account or a Roth IRA), with custodial accounts there is no rule on what your child can or cannot spend the money on. If they decide to go to college, they can use it for college. If they want to open a business, they can use it for that. If they want to spend ½ of it to buy a home and the other ½ to pay for their wedding or fund a travel experience overseas they can do that too. It’s your child’s money to do as he or she wishes.

3. There is no contribution limit. With a custodial account there is no income limit on who can and cannot contribute to the account (like there is with an Educational Savings Account) and there also is no limit to how much or how little you can put into the account each year (like there is with a Roth IRA). It doesn’t matter if you are rich, poor, or somewhere in between, anyone can contribute any amount of money to a custodial account as frequently or infrequently as they want on behalf of their child. Contributions over $15,000 per year will trigger the federal gift tax, but technically speaking you can put as much money in the account as you want. That is not the case with some of the other investment accounts.

What are the drawbacks?

Like almost any type of account, there are things to be cautious of if you decide to open a custodial account on behalf of your child:

1. The money is your child’s to keep and you can’t take it back. If you are in a financial bind and need money for an unexpected car repair or to repay debt, you cannot withdraw money from the custodial account to do so. When you contribute money to the account you are legally giving the money to your child. This means you cannot take the money back later if you want to. It belongs to your child.

2. Your child can spend the money on whatever he/she wants. Once your child hits the legal age of maturity, it is their money to spend how they want. While this gives them lots of flexibility, it can be problematic without the right discipline. You may want your child to spend the money on college expenses or a home down payment but he or she may instead choose to spend the money on a fancy car, blow the money on drugs and clubs, or lose it all gambling. 

3. You have to report it on your tax forms and any financial aid forms for school. Since it’s an investment account that makes money, technically speaking, your child must pay taxes on the profit made from investing in the account. Any profits made in excess of $2100 per year is taxed at your (the parent’s) income tax rate. You can choose to pay taxes on your child’s behalf. You can also minimize any taxes owed by investing in low-cost index funds and simply waiting until your child reaches the legal age of maturity to sell any investments. However, if your child goes to college, he or she will have to report any assets they have (including money in this custodial account) to the school which may decrease how much financial aid he or she is eligible for. 

Given the drawbacks is it still useful?
 
Many people think so, but that’s a personal decision that you have to make for yourself. If you know your child will blow the money on drugs and parties then perhaps a custodial account isn’t the best place to invest the money. If you aren’t sure if your child will go to college or anticipate they may need money to pay for a wedding, buy a car, or start a business in the future, then perhaps a custodial account is a good place to invest money.

If you invest money in a custodial account then realize that your child wants to go to college (or think they may be irresponsible with the money in the custodial account) you can use the money to pay for college directly or transfer money from the custodial account into a 529 college account in their name. My point? Custodial accounts can be useful and you can invest in them in addition to other investment accounts like a 529 college savings account or a Roth IRA.
 
Tell me, would you consider opening a custodial account for your child?