What Is the Best Way To Invest a Child’s Money?

As parents, we all want what is best for our children. And often, that means planning for their future.

If your child has shown an interest in investing, or if you’d like to start investing some of their money for them, you may be wondering where to start. There are dozens of investment options, from mutual funds to cryptocurrency. It can be confusing for newcomers!

Whether you want to start a college fund or a general savings fund, this is the guide for you. This comprehensive guide will cover all the best ways to invest a child’s money — including how and where to invest and what to invest in.

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How Can I Start Investing for My Child?

Investing is simply buying assets that you believe will increase in value over time. You could buy stocks (shares of large companies), bonds, real estate, or even things like cryptocurrency.

Investing is simply buying assets that you believe will increase in value over time. You could buy stocks (shares of large companies), bonds, real estate, or even things like cryptocurrency.

But investing on behalf of children is a bit different than investing for yourself. There are two reasons for this:

1. Children cannot open their own investment accounts until they are legal adults
2. Children have different investment timelines, goals, and desired outcomes from investing

The first hurdle is simple to overcome, thankfully. Parents and loved ones can open what is known as a custodial investment account on behalf of the child.

Custodial accounts are set up with a custodian (a legal adult) and a beneficiary (the child). The custodian controls the account, makes investment decisions, etc., until the beneficiary reaches adulthood (18 in most states).

Once the child becomes a legal adult, control of the account transfers to their name. They can then do as they please with the money.

There are different types of custodial accounts, but the simplest and most versatile is a UGMA account. UGMA accounts are general-purpose investing accounts, which means they can be used to invest in a wide range of assets — and the money can be used for any purpose once the child gains control of the account.

EarlyBird offers a simple way to open a UGMA investment account. The EarlyBird platform is easy to use, even if you don’t have any investing experience.

There are other tax-advantaged savings accounts for children, particularly when it comes to college savings options. Examples of a college savings plan include the 529 plan and the Coverdell ESA. These offer tax benefits when funds are used for education expenses.

However, these accounts have tax penalties if funds aren’t used for education — so they are more restrictive. With that said, if you are planning to use the account for educational expenses, these accounts could provide the child with tax-free withdrawals — and may even help you save tax dollars on your contributions.

Once you have an account open, you simply need to select investments. This will involve thinking about your child’s timeline. The strategy for a 2-year old will be different than for a 15-year old.

A general rule of thumb is that the longer the time horizon, the more investment risk you can afford to take with investments. If the money is needed sooner, it’s wise to stick with lower volatility investments like bonds.

There are many different things to invest in, however. More on this below!

What Should I Invest in for My Child?

There are many different asset classes that are worth considering for your child’s investment portfolio. Ultimately, you should aim to build a diversified portfolio — which means mixing several different types of assets to spread out your bets. You can use individual investments, mutual funds, index funds, or any combination.

You should buy specific things depending on your goals, timeline, and risk tolerance. The best investments for children tend to be things like stocks, which have higher potential for long-term growth. But again, this depends on your goals.

For investment guidance, you might consider consulting with a fiduciary financial planner. Or, to keep things simple, buying a low-cost stock market index fund can also be a great idea (more on this below).

Stocks

Stocks are fractional ownership of large companies. They are sold as “shares.” The terms share and stock can be used interchangeably. Individual stocks represent ownership of that specific company.

When you buy a share of Apple stock, you now own a very small piece of Apple as a company. If Apple grows or increases profits, the value of your stock will likely increase. If Apple declines (or the stock market in general declines), your stock’s value could fall.

Stocks are typically a great investment because successful companies tend to grow over time. Of course, picking the right stocks is tricky. 30 years ago, Sears would have looked like a great investment — today, not so much!

For this reason, many investment advisors recommend avoiding individual stocks and investing in index funds, which include hundreds of different stocks. Or you can use mutual funds, which are actively managed by professional investors.

If you do choose to invest in individual stocks, make sure to choose wisely and do your own research.

It’s also wise to diversify by choosing a variety of individual stocks. That way, if one investment fails, you won’t lose all your hard-earned money.

Stock market index funds

Another way to invest in stocks without having to buy specific companies is to utilize index funds.

Index funds are basically baskets of different stocks. For example, an S&P 500 index fund invests in 500 of the largest publicly traded firms in the United States. If you buy this fund, you now own very small slices of 500 different companies.

The advantage here is instant diversification. Instead of investing in Apple or Costco, you’re simply investing in “the stock market” as a whole. You can kick back and relax, knowing that you don’t have to micromanage your investments.

And over the long term, index funds tend to perform quite well. The S&P 500, for example, has had average returns of around 10% per year since its inception.

Most index funds come in the form of ETFs, which stands for exchange-traded funds. This is simply the structure of how these funds work. ETFs trade just like individual stocks — but ownership of that exchange-traded fund represents ownership of all the underlying assets that that ETF owns.

Some index funds are also structured as mutual funds. Some mutual funds work similarly to ETFs, although they often have minimum investment amounts. Other mutual funds are actively traded, which means that professional money managers actively buy and sell stocks.

In short, index funds are an easy way to gain exposure to a huge number of companies. They’re a great, diversified, beginner-friendly way to get started with the stock market.

Bonds

Bonds are units of debt. You can think of them like loans, just in reverse.

A company (or a government) can issue bonds in order to raise money. Investors then buy the bonds. The issuing company agrees to pay back the investor after a certain period of time, with interest along the way.

For example, you could buy a $1,000 corporate bond from company XYZ for $1,000. The company would promise to pay you back your $1,000 after 5 years — along with 5% interest per year.

Bonds are generally lower risk than stocks, although this depends on who issues the bond. US government bonds are extremely safe but don’t pay much interest. Corporate bonds may pay more but can be riskier. There is always the chance that the company will default on the bond (fail to repay it).

You can also buy bond index funds. These are like the stock index funds discussed above. Bond funds invest in hundreds of different bonds, which reduces the risk of a default significantly impacting your diversified portfolio.

In general, bonds are a lower-risk, lower-reward investment compared to stocks.

Other assets

There are also a variety of other asset classes out there. Here’s an overview.

Real estate: Physical property, like houses or apartment buildings. Real estate is often a good investment, but it’s not very accessible as you need to invest hundreds of thousands of dollars in a single property. You can get some real estate exposure through REITs, which are like index funds for real estate.

Cryptocurrency: Digital currency based on blockchain technology. Cryptocurrencies like Bitcoin (BTC) and Ethereum (ETH) are digital currencies and stores of value. Historically, they have performed very well but are considered a risky asset class.

Precious metals: Precious metals like gold and silver have been used as a store of value and investment for millennia. However, they don’t produce any yield (interest), and you must store them safely if you buy physical bullion.

Other: Various other assets include artwork, collectibles, commodities, and more. For the purpose of this article, the asset classes listed above should be more than sufficient.

Best Way To Invest Child’s Money

Let’s take everything we have learned and break it down into a simple outlook. What is the best way to invest a child’s money?

Best children’s investing account: EarlyBird custodial account

It starts with opening an investing account on behalf of your child. Remember that kids can’t open their own accounts until they are at least 18, so you will have to go with a custodial account.

The simplest and most powerful account to open is a UGMA account with EarlyBird.

EarlyBird is a platform that makes it simple for adults to collectively invest in the children they love. Here’s how it works:

1. Any parent or guardian can open an EarlyBird custodial account — it only takes a few minutes
2. The child can be assigned as the beneficiary
3. The custodian can fund the account and select a portfolio
4. EarlyBird offers a range of expertly-crafted ETF-based portfolios
5. Adults can easily contribute money at any time — simply send the link to loved ones
6. When the child becomes the age of majority (usually 18), they gain full access to the account and can use the money as they see fit

EarlyBird makes it easy to open an investment account for a child. And once it’s open, it’s simple to build a diversified portfolio based on your goals and desired risk level. No investing experience is required.

And because of the legal structure of the account, the funds can be used for anything when the child receives the money. They can use it to pay for college expenses, fund an international trip, start a business, or simply get started in life.

Conclusion

Generally speaking, the most flexible way to invest a child’s money is to open a custodial investment account. This way, your money can grow passively with the stock market, you don’t need to micromanage your investment strategy, and the funds can be used however the child prefers.

For the best results, invest regularly. To teach your children good investing habits, you could consider matching their investments dollar-for-dollar.

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