What Are Custodial Roth IRAs?
Custodial Roth IRAs are similar to regular Roth IRAs but with a few differences. First of all, let’s explore Roth IRAs here. Additionally, an adult, usually a parent or guardian, opens a custodial Roth IRA for a child. Moreover, they will also manage the account until the child becomes an adult, typically around 18 years old. The purpose of a custodial Roth IRA is to let parents or guardians save for their child’s retirement from an early age. Importantly, by starting contributions early, the child has the potential to grow their savings with compound interest over time.
During the time that the account is held under custodial status, the custodian is responsible for managing the account and making investment decisions on behalf of the child. This arrangement allows the custodian to guide the investment strategy and ensure that the account is being properly managed.
Once the Child Becomes an Adult
Once the child becomes an adult, however, in addition, they take over the custodial Roth IRA. At this point, the custodian’s role then shifts to furthermore assisting the child in transferring the custodial IRA into their own name as a regular Roth IRA. By doing so, this grants the child with full control of the account, thereby enabling them to continue saving for retirement independently.
Additionally, it’s important to understand that even though the custodian manages the account while the child is under 18, the money in the custodial Roth IRA actually belongs to the child. This means that the child owns the funds and they can only be used for retirement savings. As the child grows up and learns more about finances, the custodial Roth IRA can be a great way to teach them about investing and the importance of planning for the future.
How do we start a Custodial Roth IRA
In order for a child to be eligible for a Custodial Roth IRA account, they must have earned income. They cannot contribute more than their gross income in a year. However, as long as they are paying taxes on the money, they can contribute it to this account.
One way your child can have earned income is by working for your own business. This arrangement can provide them with the opportunity to earn taxed income. They can contribute this income to the Custodial Roth IRA account. By doing so, they can start building their retirement savings at a young age. This allows them to potentially benefit from the power of compounding.
Alternatively, when your child starts their first job, they can also contribute a portion of their earned income to the account. This cultivates a sense of responsibility and financial independence. As well as allow them to take advantage of the potential tax advantages offered by a Roth IRA.
Contribution Limits
Custodial Roth IRA accounts do have the same contribution limits as normal Roth IRA accounts. In 2023, the contribution limit is $6,500. Additionally, like Roth IRA accounts, you will open them with a brokerage of your choice, such as Fidelity, Vanguard, Charles Schwab, or many others.
By proactively opening a Custodial Roth IRA account for your child, you not only are taking the first step towards securing their future, but also are helping them understand the importance of long-term financial planning. By setting them on a path to prosperity, furthermore, through consistent contributions and wise investment decisions, they can take advantage of early retirement savings benefits.
It’s a good idea to talk to a financial advisor or tax expert to make sure your child qualifies for a Custodial Roth IRA and to make the most of the benefits it offers. They can help you make informed decisions that align with your child’s financial goals and needs.
Sources:
Freitas, T. (2023, September 13). Custodial Roth IRA: How and why to start a Roth IRA for kids. Bankrate. https://www.bankrate.com/retirement/custodial-roth-ira-starting-ira-for-your-child/#:~:text=Custodial%20Roth%20IRAs%20are%20funded,it%20(unlike%20traditional%20IRAs).
O’Shea, A., & Taube, S. (2023, November 2). What is a custodial Roth Ira?. NerdWallet. https://www.nerdwallet.com/article/investing/why-your-kid-needs-a-roth-ira
