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Child IRAs: Save Taxes Now and Help Your Child Save for Retirement

Do you think Social Security will be around for your kids?  Are you willing to take that chance?

Child IRAs are a great tool for a child with earned income!

You can provide your child with a large retirement fund by setting up and funding an IRA for them at an early age, and the wages you pay them are tax deductible now!

Setting up an IRA in your child’s name can be a great tax planning strategy for a child with earned income.

 

Benefits

An IRA can allow your child to:

  1. Shelter current income from taxes (if they’re using a Traditional IRA)
  2. Set up a retirement fund that will have decades of tax-deferred growth (or tax-free if they set up a Roth)

The usual IRA annual contribution limits apply, and the child must have earned (wage) income.

However, you can fund their IRA for them as a gift!

Save Taxes By Writing Off Your Child’s Wages

If you own a business (or farm), you can hire your child to work in your business, and the wages you pay them are a deduction for tax purposes.

There are several benefits:  The child can use the money for any purpose, including to purchase otherwise non-deductible personal/school items, such as clothing, supplies, and entertainment.    The wages you pay are a deduction on your business tax return, which reduces your self-employment income (which is subject to both self-employment tax and income tax!).

To make this work, the child must perform actual services, and the compensation must be reasonable.

The child can combine the wages you pay them with other earned income, such as that from babysitting, mowing lawns, or other part time and summer jobs.

Funding a Child IRA

Often, a child’s parents or grandparents fund some or all of their IRA.

You can use this as an incentive for the child to work, since they must have earned income to be able to contribute to an IRA.

The nice thing is that you can make the entire contribution for them, or offer to split the funding if you’d like them to get into the saving habit themselves.  You can gift $14,000 per year to your child ($28,000 as a married couple), so you can easily fund their entire IRA contribution each year if you don’t gift them any other significant sums of money throughout the year.

Keep in mind that unlike their wages, the IRA contribution that you gift them is not a business deduction.

IRA as a Child’s Retirement Fund

Do you think Social Security will be around for your kids?  Are you willing to take that chance?

You can provide your child with a large retirement fund by setting up and funding an IRA for them at an early age.  This is because children have a very long investment period before they retire, and the tax-deferred compounding of earnings produces huge results on even a single year’s contribution!

For example, if a 15 year old child contributes $2,000 to an IRA and earns an average annual return of 7%, they will have $58,914 when they retire at age 65!

The results are best, of course, if the IRA is funded every year.

Consider this:  If a 15 year old child contributes $2,000 per year for four years (and no more after that) to an IRA and the investments grow at 7% annually, they would have $213,523 when they reached age 65!

As the average annual return increases, so does the amount of money they’ll have at retirement age.

If you increase the return to 10% annually, that $8,000 that they put in when they were teenagers would be worth a whopping $818,649!  All this without putting in another dime after they turn 19.

Think how much the account would be worth if they contributed the max each year, or if they continued beyond age 19!

Don’t you wish you would have done this for yourself when you were that age?

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