Self-Directed IRA and Traditional Retirement Savings for Your Children
Recent studies show that a large percentage of Americans feel they need to work past age 70 to be able to continue covering their living expenses. This underscores the need for individuals to improve their Self-Directed IRA and retirement-saving habits…for many this means starting to save at an early age. You can help your children by encouraging them to begin funding their retirement accounts as soon as they start earning eligible income. Consider the following when funding retirement accounts for your children.
The Child Must Have Earned Income
The required income rules that apply to adults also apply to children. A contribution cannot be made to a child’s IRA unless that child receives eligible income of at least the dollar amount of the contribution made for the year. For this purpose, eligible income includes wages, salary, and commission.
Eligibility Rules Apply
A child is subject to the same eligibility rules that apply to adults. This includes:
- The child’s contribution to IRAs for the year cannot exceed a total of $6,500 or 100% of eligible income, whichever is less.
- The child must have income within the limits for funding a Roth IRA, which means a Roth IRA contribution cannot be made for that child if his or her modified adjusted gross income (MAGI) exceeds:
- $129,000 if single
- $191,000 if married, and
- $10,000 if married, filing separately
- If the child received benefits or contribution under an employer sponsored retirement plan, he or she might be considered an active participant and would be able to claim a tax deduction for traditional IRA contributions only if his or her MAGI does not exceed:
- $70,000 if single
- $116,000 if married filing jointly, or
- $10,000 if married, filing separately
If the child is not an active participant but is married to someone who is, the MAGI limit is $191,000,
Most children will not have this issue of high income. But for those who might, it is important to pay attention to these limits to prevent tax filing and/or contribution errors.
You Can Pay Your Child a Salary – But Be Careful
If you own and operate your own business, you can pay your child a salary so that he or she is eligible to contribute to an IRA. Of course, such salaries must be done on a legitimate basis and be able to pass any IRS scrutiny. For instance, if you pay your child for providing administrative services such as filing and answering the telephone, that child must be of age to do so and you must have payroll records that satisfy statutory requirements.
Availability May Be Limited
Not all financial institution allow IRAs to be opened on behalf of children and, for those that do, the parent or legal guardian is usually required to be the authorized signatory on the IRA until the child reaches the age of majority as defined by the state of domicile. If you are the authorized signatory, you would be responsible for approving transactions such as distributions and investments. Once the child reaches the age of majority, then he or she would become eligible to be the authorized signatory on the account.
It Adds Up
Helping your child to start saving at an early age not only encourages good savings habit, it could lead to significant retirement savings. Consider that a savings of $1,000 per year for 40 years at a 4% return per year would amount to about $100,000. If the account is a Roth IRA, the entire accumulated savings would be tax-free when the child reaches age 59 ½, or sooner if it has been at least five years since the first Roth IRA was funded and he or she is withdrawing up to $10,000 for a first-time home purchase, he or she is disabled, or if the amount is being withdrawn by a beneficiary in the event of his or her death.
Professionals Can Help
Professionals can help you discover practical solutions for your child’s saving and retirement planning needs. It is never too early to start saving, but when you do, you want to start with the right type of account.
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