Tag: investing

Dear J.,

In theory, this is a great idea. The big advantage of a Roth IRA is that you pay upfront taxes on the money you invest in exchange for unlimited tax-free growth. Since your grandson is 17, I’m guessing he doesn’t have a big tax bill. If he has the discipline not to touch that money for four or five decades, even a small amount invested now could have a huge payoff at retirement time.

But that part bears repeating: Your grandson needs to be willing to not spend this money for several decades. That’s a big ask for a 17-year-old.

Before I go any further, let me explain the rules: Anyone can fund a Roth IRA as long as they have earned income for the tax year, i.e., money earned from working. Age isn’t a factor. The classic example here is that even the Gerber Baby could open a Roth IRA.

Your grandson could contribute up to $6,000 or the full amount of his earnings (whichever is less) for 2022. In 2023, the limit increases to $6,500.

Because your grandson is a minor, he’d need a custodial Roth IRA. He’d own the money, but an adult would need to make the investment decisions. Once he reaches the age of majority — between 18 and 21, depending on the state — he’d have full control over the money.

Keep in mind that just because the money is invested in a Roth IRA doesn’t mean your grandson won’t be tempted to spend it. He’d be able to withdraw the contributions (but not the earnings) at any time. With the earnings, he’d pay a 10% early withdrawal penalty, plus income taxes on withdrawals before age 59 ½. But taxes and penalties may not be a huge deterrent when it feels like retirement is a lifetime away.

If you’re going to encourage your grandson to fund a Roth IRA, make sure you follow up with some guidance. A good place to start is by talking about short-, medium-, and long-term financial goals.

Buying a car or saving up spending money for college are examples of short-term goals. A medium-term goal might be to buy a house after college or pay for graduate school. But the money he invests in a Roth IRA is for a long-term goal, which is his eventual retirement.

It is possible to use a Roth IRA for shorter-term goals, which is a frequently cited benefit of this account. For example, you can withdraw up to $10,000 worth of earnings for a first-time home purchase without owing taxes or penalties. You can also use the earnings for higher education and avoid the typical 10% early withdrawal penalty, but not the taxes. That flexibility is nice, but when you use the money on shorter-term goals, you don’t lock in the true power of the Roth IRA, which is unlimited tax-free growth.

Plus, you make money with a Roth IRA by investing in the stock market. You typically don’t want money invested in stocks if you’ll need it in the next few years because the stock market can be volatile in the short run.

A good goal for your grandson may be to continue saving half of his paycheck and splitting it between his savings account and Roth IRA. Even if he only invested $100 a month for the next year, the payoff could be substantial. Assuming 8% annual returns, that money would grow to more than $56,000 by the time he reaches his full retirement age of 67.

But just as importantly, saving even just a small amount for retirement is a great habit to start at 17. If your grandson can get used to investing 10% to 15% of his paycheck while he’s still a teenager and continue doing so throughout his career, he’ll be in great shape for retirement.

Ultimately, though, this is your grandson’s money, so it’s his call. But if he’s already saving half his paycheck at 17, I think you can trust him to make wise financial decisions.

Robin Hartill is a certified financial planner and a senior writer at The Penny Hoarder. Send your tricky money questions to [email protected].

Dear K.,

Suppose your kids’ father would somehow learn of your inheritance. It really wouldn’t matter because he wouldn’t be entitled to it. Even when two people are married, inheritances and gifts belong solely to the inheriting spouse. So the worst-case scenario is that your ex finds out about your $150,000 windfall, asks you for money and you refuse to give it to him. (The one exception here would be if you owed him child support, in which case the state’s child support agency could go after you for the money.)

Depending on how your father left you this money, your inheritance may be a matter of public record. If he left you money in his will, your children’s father could find out about your inheritance if he requested probate court records for your father’s estate. But if you received this money through a trust or you were the beneficiary of a retirement account or life insurance policy, this information would generally be confidential.

But let’s be realistic. What are the odds that your kids’ father would go snooping through court records to see if you got an inheritance? Loose lips seem like a far likelier source of this information.

The best way to stop your ex from discovering your inheritance is to not talk about your inheritance. Not with him, obviously. Not with mutual friends and acquaintances. And not with your kids, assuming they don’t already know.  It’s not fair to ask them to keep a secret from their father, especially if they’re young. 

Now let’s talk about what to do with that money. The first step I’d take is to establish a six-month emergency fund for you and your kids. You always want money stashed away for an unexpected expense or loss of income, but that’s especially important as fears of a recession grow. Keep that money in a high-yield savings account so you can access your cash when you need it while earning a bit on your principal. If you have debt other than a mortgage or a low-interest car loan, paying it off would also give you a good return since you’d save money on interest.

Once you have your six-month emergency fund, I’d recommend simply putting it in an S&P 500 index fund and letting the money grow. With an S&P 500 index fund, you’re investing across 500 companies representing roughly 80% of the U.S. stock market. 

Some years (ahem, 2022), your investment will be down, but the S&P 500 has a remarkable track record of delivering profits over long periods. In an average year, returns are around 10%. If you earned average returns, a $100,000 investment would grow to over $670,000 in about 20 years, even if you never contributed another cent.

It’s essential that you keep that money put so it can grow. Establishing your emergency fund provides a safeguard so you don’t have to withdraw your money for short-term needs. But it’s just as important that you commit to saying “no” to your children’s father if he comes to you asking for money. I don’t know the nature of your current relationship, but it’s pretty clear that his destructive spending has affected you. Even if he would somehow discover your inheritance, make a firm commitment that you won’t use a dime of this money to bail him out of any future messes.

A $150,000 inheritance can buy you significant financial security, but it’s not a winning Powerball ticket. It’s not enough to splurge on a new home and luxury car or the kind of lifestyle upgrades that would draw attention. If you don’t broadcast your inheritance, odds are good that you can keep it private. 

Robin Hartill is a certified financial planner and a senior writer at The Penny Hoarder. Send your tricky money questions to [email protected].