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Tax advantaged retirement account for a baby?

rangeseeker
New Contributor

Tax advantaged retirement account for a baby?

The title is hilarious, I know. The wife and I agree we want to set aside about $1500 upon the birth of our child (in a few years we plan). We'd like this to be a starter retirement account for the baby, but we don't want to pay taxes to convert the account from one account type to another when they turn 18. For example, we don't want to just invest $1500 in a taxable account when they're born and then sell the assets in order to give them the money when they turn 18. We'd like to have the money in their name from day 1. Do any such accounts exist? Any advice on this topic? 

Message 1 of 11
10 REPLIES 10
rangeseeker
New Contributor

Re: Tax advantaged retirement account for a baby?

I should clarify, we don't actually care if the money is in their name on day 1. What we really care about is there not being any taxable events, if assets can be transferred tax free from our name to their name then we are all for it. 

Message 2 of 11
beets18
Valued Member

Re: Tax advantaged retirement account for a baby?

If your newborn can legitimately make income, then you could open a Roth IRA and contribute to it. But there's been many a people who make bogus jobs for their kids from a business they own, and the IRS doesn't look too kindly upon that.

 

Once they're teenagers and get a job, you can contribute up to their earned income to a Roth IRA. It doesn't have to be their paycheck that goes into the Roth IRA, so you can effectively "match" their paycheck.


Message 3 of 11
Anonymalous
Frequent Contributor

Re: Tax advantaged retirement account for a baby?

There's nothing exactly like that. Alternatives:

 

You might look into a UGMA (Uniform Gift to Minors Act) account. That allows you to gift money to a child. It's not tax exempt, but it will taxed at the child's rate, so there are some tax advantages. The downside is the money is completely under the control of the child when they reach majority (varies by state, but usually 18-21), and they can do whatever they want with it. If you want more control over what your child does with the money, you'll have to set up a trust, which will cost you a few grand.

 

Another option is a 529 account. Tax-wise, these are similar to Roth IRAs (after tax contributions, but tax free withdrawals). Downside is it needs to be for education, and some of the money in the account will be considered when calculating financial aid. Only a small portion counts, and you can get around this limit if the owner of the account isn't one of the parents (a grandparent for instance).

 

Also, look up the gift tax rules. You can gift people money without paying taxes. There's a yearly limit, currently $16,000/person. But the yearly limit just means amounts higher than that have to be reported to the IRS, and are deducated from your lifetime limit. The yearly limit is per person, so you and your spouse could give your child $32,000 in 2022 without reducing your lifetime limit. Though since the lifetime limit is over $12 million, that's not a factor for most people.

 

Message 4 of 11
rangeseeker
New Contributor

Re: Tax advantaged retirement account for a baby?


@Anonymalous wrote:

There's nothing exactly like that. Alternatives:

 

You might look into a UGMA (Uniform Gift to Minors Act) account. That allows you to gift money to a child. It's not tax exempt, but it will taxed at the child's rate, so there are some tax advantages. The downside is the money is completely under the control of the child when they reach majority (varies by state, but usually 18-21), and they can do whatever they want with it. If you want more control over what your child does with the money, you'll have to set up a trust, which will cost you a few grand.

 

Another option is a 529 account. Tax-wise, these are similar to Roth IRAs (after tax contributions, but tax free withdrawals). Downside is it needs to be for education, and some of the money in the account will be considered when calculating financial aid. Only a small portion counts, and you can get around this limit if the owner of the account isn't one of the parents (a grandparent for instance).

 

Also, look up the gift tax rules. You can gift people money without paying taxes. There's a yearly limit, currently $16,000/person. But the yearly limit just means amounts higher than that have to be reported to the IRS, and are deducated from your lifetime limit. The yearly limit is per person, so you and your spouse could give your child $32,000 in 2022 without reducing your lifetime limit. Though since the lifetime limit is over $12 million, that's not a factor for most people.

 


Great info, thank you! I really wish there was an account that I could deposit money in, even after taxes, specifically for retirement. A 529 sounds good too though. 

Message 5 of 11
Anonymalous
Frequent Contributor

Re: Tax advantaged retirement account for a baby?


@rangeseeker wrote:


Great info, thank you! I really wish there was an account that I could deposit money in, even after taxes, specifically for retirement. A 529 sounds good too though. 


I think @beets18's idea of matching your child's earnings in their teenager years with contributions to a Roth is an excellent idea. Not only does that seed their retirement, but it also builds financial literacy, and I think that's one of the most valuable things you can do for a child. Let them set up the account and make all the decisions about how the money is allocated, and they'll not only have practical experience, but they'll hopefully build some useful habits.

 

For 529s, always consider the option in your state, because it may provide tax advantages. But also look around. You can open a 529 in any state, and if your state's plan isn't one of the better ones, going with a really good plan in another state may be the best option. Also, be aware you get hit with the full tax plus a 10% (?) penalty if it's not used for education, so if your child doesn't go for higher education, it may feel like a waste. But you can reassign the beneficiary and owner as needed, so you could potentially pass it to your child for their child, or use it yourself. There is some flexibility.

 

Message 6 of 11
BillSmiff
Established Member

Re: Tax advantaged retirement account for a baby?

I have read the great info here on how to use the program if you are a parent/grandparent; does anyone know if the programs allows individuals (me) to set up an account in a non-relative childrens names? Yes, my Accountant would/should know this but I was wondering today! It could wait until she can get to my email during the business week but people on here know the ins and outs and how to use programs to their advantage and not just what the "rule book" says. 

 

Thanks for any info on this. If a potential option then I could take the knowledge offered here and take it to her being prepared!

 

I never post, just DM people w/ thoughts or questions but decided to today. I sincerely appreciate all the advice, knowledge, support, sympathy,  "kicks in the pants" when needed that is given here. Thank you,

Message 7 of 11
tacpoly
Established Contributor

Re: Tax advantaged retirement account for a baby?

If you will regularly add a substantial amount and not just the $1500, set up a trust.  If not, it's not worth the effort. But with a trust, you can structure it how you want, including specifying that funds are for the child's retirement. 

Message 8 of 11
BillSmiff
Established Member

Re: Tax advantaged retirement account for a baby?

Thank you @tacpoly  I am not sure of the amounts or regularity of the contributions so I'll be able to speak to my Accountant on a Trust for this and they can determine the best way for limiting taxes on contributions and withdrawals down the line. You have me thinking now that with the way my friends daughter is going academic wise that she should be on a path for academic scholarships and a 529 would end up a mistake since it may not be needed in any way. THANK YOU for the advice; your idea is way more practical.

Message 9 of 11
Anonymalous
Frequent Contributor

Re: Tax advantaged retirement account for a baby?

Trusts don't really provide much in the way of tax advantages. They're mostly about control and avoiding probate. Also, 529s have an exception for scholarships -- you can withdraw the equivalent of the scholarship from the 529, without a penalty. Though you will have to pay taxes.

Message 10 of 11
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