Why You Should Start Investing for Your Kids Right Away

By Sarah George 

“I should’ve started investing in my 20s,” my dad said while taking a swig of black Folgers as he recalled aloud, as he often did, about not making that savvy financial move. He’s always encouraged me to learn from his mistakes to improve my finances. Money was always tight in our house growing up, so I learned a lot about saving my money young and started investing as soon as I could.

It’s a common scenario that Americans reach retirement age without much in savings. In fact, only 38% of Americans have some sort of retirement plan in place, according to the Finder Consumer Confidence Index. Another 48% don’t plan to save for retirement at all.

However, the earlier you start investing toward your future, the better. Unfortunately, at the time when twentysomethings could be harnessing the power of compound interest, they’re usually knee-deep in student loan debt and crunched just to buy groceries for the week.

So what if your child could have investments by the time they’re off to college? If you’ve made investments for them to set them on the right path, college-bounders could contribute $40 to $50 monthly, as little as the price of dining out, until they’re in a better position to invest more.

Let’s dive into the why behind investing for kids, from a mom who wants the best for her four-year-old.

1. Time is on their side.

Let’s say that parents invested as little as $50 a month in stocks for their children from age 5. Starting with $50 in the account and with a 6% historical return, their kids could leave for college with more than $23,000 total on hand. At this point, you would have contributed $12,050 for your kids from ages 5 to 25. Yet their earnings could pay off a few years of community college or even a down payment on a house.

Investing a little early in your kids’ life works wonders, because it maximizes the power of compound interest to their advantage. The earlier you start investing, the more time that money has to compound on itself. This compounding grants you higher returns if you start now than if your child starts investing as an adult, assuming that all returns and dividends are reinvested.

Now, let’s say that your kids start ramping up their investing once they land a job. With 40 years of life to work with, they could invest just $400 a month and be millionaires by the time they reach retirement age.

However, without that hefty initial investment, most adults have to put in much more than $400 a month to fully fund their retirement. If the same 25-year-old invests $400 a month in the same portfolio without the initial investment, they’ll end up with some $807,000 — compare that to the nearly $1.1 million for those that start younger.

Bear in mind that you should work with a licensed financial adviser on the right amount to invest and which investments to make — these are only examples.

2. They can get risky with it.

The closer you are to retirement, the more frugal you must be to guarantee your returns. Many people who are close to retirement prioritize low-risk stocks and bonds, which earn 4% to 5% in returns versus a top-line of 10% return for portfolios with high-risk stocks.

Because kids have many years ahead of them, they can choose stocks and other risky securities that fluctuate heavily — and typically grant higher returns if the money is kept in the portfolio long enough.

In either strategy, you can diversify your kid’s portfolio among different securities to balance the risk. It’s the types of securities you choose that will change. For example, you might choose to invest 10% in real estate and the other 90% spread out in stocks and ETFs.

3. Kids get kinder tax rates on investments than adults.

When you’re investing for kids under age 18 or full-time students under 24, you get the benefit of not paying taxes on all the contributions and earnings. Here are other ways your child benefits from fewer taxes.

The Kiddie Tax

Because of tax rules related to the Kiddie Tax, the first $1,150 per year of your child’s unearned income won’t get taxed. Then, the next $1,151 to $2,300 gets taxed at the child’s income tax rate. Anything above $2,300 gets taxed at the parent’s tax rate. 

Note that the exact amount your child owes varies based on the types of income and amounts they earn. Talk with a tax adviser or visit the IRS’s tax rules for children to confirm your situation.

Kids’ investment accounts

Along with the Kiddie Tax, there are many options to choose from for tax-advantaged investments for your kids. 

4. There’s leeway in learning how to invest.

Your kids have time and discretionary money to spend on learning about investments, whereas they don’t have that advantage when their time and money is tied up in adulting. 

Ways to teach your kids investing: 

1. Financial literacy programs. Start with teaching basic money and investing concepts through courses and lessons. You can search for free courses on the JumpStart Clearinghouse website.
2. Stock market simulators. Kids can try their hand at day trading with games that simulate how the stock market works, such as Wall Street Survivor or MarketWatch Virtual Stock Exchange.
3. Micro-investing. Trading platforms like Stockpile let kids invest in fractional shares of companies with as little as $1 or $5. That way your kids get to dip their toe in investing without risking much money.
4. Kids’ investing apps. Check out a variety of kids’ investing platforms that let kids choose the investments, while parents approve them before kids make a purchase. Investr Jr. is an example of a platform designed for kids to learn investing, offering real-time investments and a virtual simulator.
5. Kids’ chore and banking platforms. On the rise are fintech companies offering debit cards for kids that also integrate investing in their platforms. For instance, Greenlight offers chore and allowance tracking as well as investments for parents and kids, depending on the plan you choose.

Bottom line

The key to investing is to start early — and what’s earlier than when your kids are still in grade school? Get started with the host of resources available from articles, courses, stock market games, and then let your kids get started in the real world with experience and know-how in their tool belts.

Sources

About Publication 929, Tax Rules for Children and Dependents, IRS, September 12, 2022, https://www.irs.gov/forms-pubs/about-publication-929

An Introduction to 529 Plans, SEC, May 29, 2018, https://www.sec.gov/reportspubs/investor-publications/investorpubsintro529htm.html

Historical index risk/return (1926–2019), Vanguard, https://advisors.vanguard.com/VGApp/iip/advisor/csa/analysisTools/portfolioAnalytics/historicalRiskReturn

Topic No. 310 Coverdell Education Savings Accounts, IRS, https://www.irs.gov/taxtopics/tc310

The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

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