Consider setting your kids up a Roth IRA
If your summer farm help involves your child or grandchild, you can combine that hard work with a financial life lesson. By setting up a custodial Roth Individual Retirement Account (IRA), that young adult could sock away some serious cash in the next decade or three (see example above).
HOW DOES IT WORK?
A Roth IRA is a retirement investment account to which anyone with earned income can contribute after-tax earnings. Then, the investments within the account grow tax free.
A custodial Roth IRA is when a parent or other adult opens one for a minor. At age 18 (or the age of majority in your state), the child becomes the owner of the account.
With a traditional IRA you deduct contributions now and pay taxes on withdrawals later, but a Roth IRA allows you to pay taxes on contributions now and receive tax-free withdrawals later.
“A Roth IRA is interesting because it allows children to have lots of time to build compound interest on their earnings,” says Jessica Groskopf, agricultural economist and University of Nebraska Extension educator. “The best thing we can do for savings and investments for children is to provide them a lot of time.”
A single filer with an adjusted gross income under $140,000 per year, regardless of age, is eligible to contribute to a Roth IRA account. People can contribute up to the annual limit or the total of their earned income, whichever is less. The annual limit for people under age 50 is $6,000 for 2022. You do not have to contribute funds annually.
Earnings can be withdrawn from a Roth IRA tax free after age 59½. If earnings are withdrawn before age 59½, those earnings can be taxed as income and charged a 10% penalty.
But, Groskopf says, there are two key exceptions to withdrawing the earnings without taxes or penalty:
- Earnings can be used to pay qualified education expenses.
- After a Roth IRA has been funded for five years, $10,000 in earnings can be used to buy a first home.
FINANCIAL LIFE LESSONS
Once kids are old enough to do legitimate work around the farm, they can also learn the basics of financial management, says Matt Roberts, chief planning officer at Syverson Strege.
“Beyond the child investing earned income in a Roth IRA, parents could set up a matching contribution,” he says. “If the child puts in $500, the parents could put in $500.”
Once funds are contributed to a Roth IRA, the investment options can include mutual funds, stocks, bonds, money market funds, CDs and even cryptocurrency.
“This is a great way to teach kids about being diversified and not putting too many eggs in one basket,” Roberts says. “Talk to your adviser for guidance, and know the goal for the money the child is putting away.”
Sara Schafer knows asking good questions creates the most useful stories. She uses her Missouri farm roots to cover innovative operations, business topics and more.
