Can I open an IRA for my children?
Dear Mr. Suffrin: I’ve heard that opening an IRA is a good way to help kids jump start their savings. What exactly is an IRA? And could I start one for my 5-year-old daughter? – Jump Start in Des Allemands
Dear Jump Start: The acronym IRA stands for “Individual Retirement Account,” and an IRA is a great way to save for retirement. There are two types of IRA accounts.
The first is the old-fashioned deductible IRA, which lets you put aside $4,000 in pre-tax dollars and $5,000 if you are 50 years or older.
The earnings from your IRA investments aren’t taxed until you start withdrawing the money during retirement.
However, you can’t touch the money without penalties before age 59½.
The other choice is the Roth IRA. The Roth IRA allows you to put in up to $4,000 in after-tax dollars and $5,000 if you are 50 years or older.
Earnings from your Roth IRA are tax-free if the money stays in the account for at least 5 years and is withdrawn after age 59½.
The Roth IRA is attractive because earnings are tax-free. The deductible IRA has the advantage if using pre-tax dollars to fund the retirement account.
To fund an IRA, the person who owns the account must have earned income.
Earned income is from wages, salary, self-employment, etc. It is not from interest, dividends, rents, etc.
Therefore, you or someone would have to hire and pay your daughter for her to contribute to an IRA account.
The pay she would receive would have to be commensurate with the services she provides – therefore, you will be limited to what a 5-year-old could do for an employer.