A Child's IRA

Written and edited by Harry Rubins for his clients and friends.
Not intended as legal or tax advice.
Obtain professional advice before taking action on this information.

A common investment strategy to save for a child's education is with a special account under the "Uniform Gifts to Minors Act". It's a custodial account where the parent or adult can open an investment account for the minor child until age 18 or 21 years old.

What about saving for retirement? Less well known is the "Guardian IRA." It allows a minor child to have an IRA account opened in their name by an adult guardian. A child under the age of legal majority (age 18 in California) who earns taxable income is eligible to make an IRA contribution.

The maximum contribution for a child is the same as that of a regular IRA which is 100% of taxable earnings up to a maximum of $2,000 per year. The Guardian IRA can also be used for inherited IRA's and other retirement plans. The guardian is responsible for signing documents and investment directions.

The account registration for a "Guardian IRA" looks something like this.

ABC Trust
FBO Johnny Doe Jr IRA
John Doe Sr. Guardian

Starting to save for retirement as early as possible really pays off in several ways. It is a great way for parents to provide additional financial education for their kids beyond just allowances and piggy banks. Since kids with their first jobs have a habit of spending everything and don't think about retirement savings, just like some adults, it will be up to the parents to encourage savings. A gift by the parents for part of the IRA contribution may be needed. Remember the IRA contribution must be based on the child's taxable earnings.

It does make a difference. A child who starts at age 16 saving $1,000 annually in an IRA for 5 years to age 21 and then $2,000 per year until age 55 will have $90,000 more than someone who started saving $2,000 annually beginning at age 21, assuming an annual return of 8%.

The growth of the original $5,000 investment ($1,000 for 5 years) to $90,000 at age 55 is great, but the early financial education by the parents that encouraged a regular savings habit, may be even more valuable.