Money and Minors: Helping Your Child Become A Tax-Free Millionaire
Updated: Jun 15
In today’s article TAM gives you a step-by-step guide to inexpensively ensure that your children will have a leg up on their financial freedom. With taxes almost surely going higher in the coming years, it’s now more important to pay attention to beneficial tax strategies.
In 1997 Congress passed the Taxpayer Relief Act, creating the Roth IRA & rendering it possible to make your kids millionaires without them having to pay little to no taxes with as little as $21,000 per kid!
That’s right, you can help your kid become a tax-free millionaire for roughly $21,000!
Like most parents, my wife & I will do everything we can to help our son succeed. This includes putting money away for his college tuition, which these days is a six-figure expense per student at most respectable schools.
The strategy is as follows:
Find a business willing to hire your teen(s), paying enough to make at least $6,000 a year.
Your child must be willing to work while in school & their agreement to invest a minimum of $500 a month ($6,000 per year) without touching it until retirement. Tough I know!
Since most teens aren’t big on delayed gratification, $250 per month for seven years from them and $250 per month match from you, will help go a long way to bridging the gap.
In a Roth account, you contribute after-tax money, but no taxes are ever due on withdrawals in retirement.
The critical part is that contributions must come from income from work.
Now before you object, “you said this is without paying taxes & now you say contributions have to be after tax!” — that’s why I said you need a teen, who will likely not earn enough to owe income tax & who has a very long time until retirement.
• You help them open a Roth IRA (e.g., with a low-cost, no-load S&P 500 index fund or a good target-date retirement mutual fund).
• From age 16 - 22, at least $500 per month at 7% return will generate $51,924 by age 22. That same $51,924 earning 7% for 45 years will generate $1.09m for your child.
• Unless your teens are happy delaying spending any of those earnings for a few decades you offer to match half of their contribution with spending cash for each dollar sent to the Roth.
This example assumes average annual return over 7% (US stock market annual returns have averaged about 10% since before the Great Depression), & a retirement age of 67.
Total contribution of $42,000, likely tax-free, you partially match that at a total cost of $21,000, & your teens begin retirement millionaires even with no other retirement investment.
What’s even better, since it’s a Roth IRA, withdrawals in retirement are tax-free.
There are of course a couple of stipulations: stock market returns aren’t guaranteed; but over a 45-to-52-year period, they should be reasonably safe and second is inflation.
Not a bad return for less than a single year’s college tuition, wouldn’t you agree?