Teaching your kids about finances and smart money moves are invaluable lessons. These lessons can start at a young age with piggy banks and coins, grow with an age-appropriate allowance and tips on how to save and spend, and even include adult-level money management like investments. Under your supervision, you can introduce your child to the world of investing by opening a brokerage account for your budding financial whiz.
Often called a custodial account, a brokerage account for children is easy to set up, most likely not requiring an in-person visit to a financial institution, according to Arielle O’Shea of NerdWallet.
“Put simply, a custodial account is an investment account or other financial account that is in a minor’s name. An adult custodian manages the account, although the assets in it are the full property of the child. Once the child comes of age, they can take over control of the account,” explains TheBalance.com ‘s TJ Porter.
Account type based on contributions
The type of assets you or your child are going to contribute to the account will determine what type of custodial account you’ll open — either a Uniform Transfers to Minors Act (UTMA) or Uniform Gift to Minors Act (UGMA).
“A UGMA account can include cash, stocks, mutual funds, or insurance policies. A UTMA account is more flexible and may include any type of asset, including works of art, real estate, or even intellectual property such as royalties from a book,” notes Brian Beers, writer for Investopedia.com.
Before you open an account, make sure you’re opening the right type to suit your child’s age and employment status.
According to O’Shea, you can open a custodial brokerage account if your child isn’t employed and doesn’t earn taxable wages or income. Your name will be on the account, but when your child hits the requisite age according to the laws in your state, they can take ownership.
If your kid has been part of the working force — whether it’s through a side hustle like babysitting or mowing lawns, or as an employee at a business — you can consider a custodial IRA.
“A Roth IRA in particular is ideal for children: The contributions your child makes to the account will grow tax-free,” says O’Shea.
There are stipulations to opening a Roth IRA for your child, though.
“If a child has already been earning an annual income and has previously filed their taxes, then they would be eligible to open an IRA account with their parent’s help,” notes Beers. “But this is only for cases in which a child has claimed earned income for at least one year already because IRA accounts require that the account owner has earned income.”
Things to review
The idea of a custodial account is not only to show your child how their money can grow over time, but it’s also an outlet for you, friends, and family to contribute to their financial success. They can see the tax-advantaged contributions they receive or add themselves, but without worrying about managing the assets. Since every custodial account differs — as do the needs of your family — be sure to research your options and potential institutions carefully.
“You’ll want to look at details such as fees, account minimums, and investment options,” advises Porter.
Once you have decided what account is best for your family, you and your child can get to work building up the account’s balance. Research potential stocks and funds to invest in, and help your child understand the ebbs and flows of their choices. Together, you can build a well-informed and rewarding investment.