In this guide, EarlyBird will introduce you to 5 excellent ways to begin investing in your child's future right now. Keep in mind that you're not restricted to just one account type; you can mix and match for different stages of your loved one's life.
Summary
- Custodial Account (UGMA/UTMA): Flexible use with $17k limit/person, taxed at child's rate, accessible at 18-21 or 25.
- 529 College Savings Plan: Ideal for higher education, over $100k limit, tax-free growth and withdrawals.
- Coverdell ESA: For all education levels, $2k limit, tax-free earnings, income limits apply, stops at age 18.
- Custodial Roth IRA for Kids: Long-term growth, $6,500 limit, requires child's earned income, tax-free distributions.
- Crypto Account for Kids: High return potential, unlimited contributions, tax benefits vary, suitable as a portfolio complement.
In this 2024 guide, EarlyBird presents five key strategies for investing and saving for your child's future. These options include Custodial Accounts for flexibility, 529 College Savings Plans for higher education, Coverdell ESAs for various education levels, Custodial Roth IRAs for long-term growth, and Crypto Accounts for potential high returns.
1. Custodial Account (UGMA/UTMA)
- Best for flexibility
- $17k contribution limit/person
- Earnings taxed at a child's lower tax rate
- Tax-efficient asset transfer strategy
- Wide range of investment options
First up on our list are custodial accounts. UGMA and UTMA accounts are perfect for parents who aren’t yet sure which direction their loved one will take in life.
Unlike most other investment accounts on our list, custodial accounts are highly flexible in terms of fund usage. When your loved one reaches the age of majority (usually between 18-21, depending on the state), they can access the funds and use them as they wish. This includes:
- Education
- Starting a business
- Traveling
We’ve mentioned two types of custodial accounts. Let’s now stack them side-by-side.
UGMA vs UTMA: Comparing Custodial Accounts
UGMA (Uniform Gift to Minors Act) and UTMA (Uniform Transfers to Minors Act) accounts are nearly identical with two key distinctions: the types of investments allowed and the age at which your child can make withdrawals. The below table compares these two types of custodial accounts:
At EarlyBird, our UGMA accounts are structured for diversified equity and bond investing, a strategy that has historically demonstrated superior long-term performance compared to other investment options like art and real estate.
2. 529 College Savings Plan
- Best for higher education
- Over $100k contribution limit
- Earnings grow tax-free
- Not taxed upon withdrawal
- No income or age restrictions
If you can say with 100% certainty that your loved one will be seeking higher education, then a 529 College Savings plan is your best bet. 529 plans differ from custodial accounts in one huge way - earnings in a 529 plan grow tax-free and are not taxed upon withdrawal. Again, the downside is these expenses must fall under 529’s qualified education expenses, which are limited to:
- Universities
- Vocational schools
- Any postsecondary educational institution
Another significant advantage of 529 plans is their substantial contribution limits, reaching hundreds of thousands of dollars. Furthermore, 529 plans have no income or age restrictions for contributions, making them accessible to a wide range of people. 529 plans can invest in a wide array of financial products, including stocks, bonds, and CDs.
Pro tip: Consider opening a custodial account and a 529 College Savings Plan. This way, you can assist with your loved one's college expenses (529) and provide financial flexibility for whatever comes next for them (UGMA).
3. Coverdell Education Savings Account (ESA)
- Best for education of all levels
- $2,000 contribution limit
- K-12 + higher education expenses
- Earnings grow tax-free
- Not taxed upon withdrawal
- Income limits
- Must seize contributing by age 18 (unless special needs)
Coverdell ESAs are similar to 529 plans with a few crucial distinctions. ESA’s can also be used for K-12 expenses and higher education, whereas 529 plans are primarily intended for higher education. Additionally, ESAs have a low annual contribution limit of $2,000.
Individuals filing their taxes as single with an income exceeding $90,000 will not be eligible to contribute the maximum amount ($2k). Similarly, those filing jointly will not qualify if their combined income exceeds $190,000.
Like 529 plans, ESAs can invest in a wide away of stocks, bonds, and CDs.
Pro tip: EarlyBird champions UGMA accounts due to their flexibility. With only 38% of Americans graduating from college, UGMA accounts provide a versatile investment option. Furthermore, if the US government covers college tuition in the future, both Coverdell’s and 529 Plans may not be necessary.
4. Custodial Roth IRA for Kids
- Best for long-term growth
- $6,500 contribution limit
- Child must be 17 or under and have earned income
- Earnings grow tax-free
- Not taxed upon withdrawal
Opening a Custodial Roth IRA for your child when they're young can significantly ease their future financial burdens, especially considering that Roth IRA distributions are 100% tax-free (contributions are made after tax).
However, unlike the other account types on our list, your child must have earned income to contribute to a Roth IRA. For instance, if your loved one babysits or mows lawns, they can contribute to a Roth IRA. Additionally, children can open their own Roth IRA, which can foster financial knowledge early in life, a skill crucial for future success.
A great upside of Roth IRAs for kids is that you can contribute to your loved one's Roth at any age, whether through college or beyond if they decide to pursue an unconventional path. You can read more about investing for teens in our dedicated article.
In 2024, you must be 59½ to withdraw from an IRA account, so this account type will not be useful to your loved one in the short term. However, states do allow exceptions to this rule - in some circumstances, it’s possible to withdraw Roth IRA funds to pay for college and incur no penalty.
5. Crypto Account For Kids
- Best for potentially high returns
- Unlimited contribution amount
- Tax benefits contingent upon account type
Our last option on the list is centered around cryptocurrency—an investment that should complement, not replace, your child's portfolio due to its inherent volatility. However, it holds strong appeal, particularly in 2024, as global monetary policies may potentially impact the dollar's stability and, consequently, equities worldwide.
The two largest cryptos by market cap are bitcoin (BTC) and ether (ETH), so these coins should dominate your child's investment portfolio.
In the US, you must be an adult to open and fund a centralized cryptocurrency account through exchanges like Gemini and Coinbase. However, a workaround here is to gift cryptocurrency to your child through a giftcard. You can read how gifting crypto works here.
Other Ways To Invest in Cryptocurrency for A Minor
Aside from gifting crypto, there are two additional ways to get your child exposure to this growing asset class.
- Invest in crypto exchange-traded funds (ETFs), such as BLOK and BLCN in our previously mentioned account types.
- Open a self-custody crypto wallet. These decentralized wallets require no KYC and can be opened immediately.
Just as with stocks and bonds, it’s important to have an investment strategy when investing in cryptocurrencies. Read more: How to Invest in Crypto for a Child
Final Word: Diversify Your Investments!
When investing in any asset class, you must diversify. Though single stocks may be great in the short term, the average lifespan of a large US company is only 18 years.
Warren Buffet bought his first stock at age 12 in 1942 for $114.72. In a recent interview, Buffet said that if he had invested that money into the S&P 500 instead, it would have been worth $400,000 today. No, that’s not a typo.
Read our dedicated article on investing fundamentals to kickstart your diversification journey.
This page contains general information and does not contain financial advice. All investments involve risk. Any hypothetical performance shown is for illustrative purposes only. Actual investment performance may be different for many reasons, including, but not limited to, market fluctuations, time horizon, taxes, and fees. Please consult a qualified financial advisor and/or tax professional for investment guidance.
