What happens if you want to save and invest but your child doesn’t go to college?
While research shows most college degrees have a positive return-on-investment (ROI), everyone knows children that don’t go to college or pursue alternative education. Some young adults are more suited to a trade that will let them work with their hands, whereas others should hit the ground running in an industry that doesn’t require a degree at all.
These are just some of the scenarios that leave parents confused when it comes to future planning. Those with college bound kids can (and probably should) start saving for higher education in a 529 savings plan if they can afford it, but what about everyone else?
If you have a kid that may not go to college but you still want to save for their future, you’ll want to be intentional about the way you save and invest for them. Here’s a rundown of some of the options you can consider.
Open A Roth IRA
According to financial advisor R.J. Weiss, a Roth IRA in your child’s name is a great way to save for their future regardless of whether they go to college. Anyone can contribute to a Roth IRA, including minors, provided they have earned income.
“So, if your child earns a few thousand dollars a year from a part-time job, you can match any of their earnings into a Roth IRA,” says Weiss.
Money invested with a Roth IRA can not only kickstart a long-term savings plan, but the funds can also be used to pay for college if a dependent decides to attend.
“You can withdraw contributions to a Roth IRA penalty-free at any time,” says Weiss.
“Additionally, you can withdraw the earnings on a Roth IRA to pay for educational expenses, although you’ll owe income tax on the earnings portion.”
Annual contribution limits apply for Roth IRAs, and it’s important to note that these accounts are funded with after-tax contributions. However, money invested into a Roth IRA grows tax-free over years and decades, and dependents can take tax-free withdrawals of both contributions and earnings once they reach retirement age of 59 ½.
Invest In A Brokerage Account
Doug Kuring, a financial advisor with Wealth Enhancement Group, says that an individual or joint brokerage account is another good option to consider. This is partly because money invested in this type of account can be used for any purpose, but it’s also because taxes on investment gains receive preferential treatment when invested for the long haul.
“If the investments are held for longer than a year, you qualify for long-term capital gains tax treatment which are preferential to ordinary income tax rates,” says Kuring.
You can also maintain full control over the account as the parent, which means you control how your child spends the money. Kuring says this is different from opening a custodial account, which allows funds to become a child’s money by law when they reach the age of majority.
“For many 17 and 18-year-olds who might not have the maturity to make prudent decisions with a large sum of money, investing within a brokerage account titled in the parents name is highly beneficial for the child’s future and peace of mind for the parent,” says Kuring.
High-Yield Savings Accounts (HYSAs) And Certificates Of Deposit (CDs)
You can also keep things simple and save for a child in an account with guaranteed returns, at least for the short-term. Options include high-yield savings accounts, certificates of deposit (CDs) and even money market accounts (MMAs). While you may not position yourself for the same level of returns you’ll get from investing money in securities, the benefit of these accounts is that they’re easy to open.
You can also lock in fairly generous returns at the moment (5.00% APY or higher), although that may not be the case in the coming years. Just remember that savings rates don’t always keep up with inflation for the long-term, and that you’ll want to look into investment strategies that can beat inflation if you want to help your child build long-term wealth.
Open A 529 Plan (With Caution)
If your child may go to college but you’re not entirely sure, a 529 college savings plan could still be your best bet. Some states offer considerable tax benefits for parents who invest in a 529 plan each year, and 529 funds grow tax-free until they are used for a broad range of higher education expenses that qualify.
Also remember that 529 plan funds can be used for not only colleges and universities, but also for vocational and trade school programs sponsored by schools that receive Title IV federal student aid.
Financial advisor Carlos Rodriguez of Edelman Financial Engines also points out that, if the child decides not to go to college, the owner of the account can redirect the beneficiary of the 529 to another child or family member.
“This can help for families with multiple children and take some of the guesswork out of opening a 529.”
Last but not least, it’s important to remember that recent tax code changes that came about with the Secure Act 2.0 have made it so families can roll over 529 plan funds into a Roth IRA for the beneficiary. Several requirements have to be met for this to happen, including the 529 plan being open for at least 15 years.
Annual limits also apply to these conversions, so individuals with large 529 plan balances will have to conduct these conversions over multiple years. A lifetime limit of $35,000 in conversions also applies. Also note that several problems could come into play with 529 to Roth conversions, including state-specific tax implications depending on where you live.
Should Parents Invest For Their Children?
All the options listed above can work for parents who want to save for a child’s uncertain future, whether they want to attend college or not. However, it’s still important for families to know if they should save for college — and if they have the bandwidth to save for kids at all.
Financial advisor Michael Collins of WinCap Financial says the decision to save money for a child’s future goals should depend on the family’s individual financial situation and priorities. Where some families may be able to fund their retirement, save for the future, and set aside funds for all their kids at once, others may have to pick and choose what matters the most in the end.
Not only that, but parents need to put their own more pressing needs first, especially if they are nearing retirement age, behind on retirement savings, or don’t have sufficient emergency funds.
“While saving money for your children to be able to go to college is a life dream for many parents, it is important to first ensure that your own financial needs are met before committing significant amounts of money towards your children’s education expenses,” says Collins.
