Laura answers a listener's question about where to start saving money for her kids' college and future needs.
Laura answers a listener's question about where to start saving money for her kids' college and future needs.
Money Girl is hosted by Laura Adams.
Transcript: https://money-girl.simplecast.com/episodes/what-are-the-best-places-to-save-money-for-kids/transcript
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Welcome back to Finance Friday, another special edition of Money Girl, where I answer your burning money questions! Today's topic comes from Natalie, who says:
"I have two small kids and want to make sure my husband and I can pay for their college and have something left to give them to buy a home one day. What are the best places or ways to start saving for them?"
Thanks for your question, Natalie! I love that you're already thinking about college for your kids and protecting their futures. This post will review five ways you can achieve financial goals for your kids and give them a financial head start in life.
Welcome back to episode 933 of Money Girl–I appreciate you spending time with me! I'm Laura Adams, an award-winning author, on-camera spokesperson, female money speaker, and founder of The Money Stack, a Substack newsletter.
You can learn more, ask questions, and sign up for the Money Stack at LauraDAdams.com. You can subscribe for free or become a paid member with access to live educational events!
The best places to save money for kids
Being a parent means you've likely got plenty of ongoing expenses and competing financial goals. Before you begin setting money aside for your children, it's crucial to make wise decisions about your financial future.
For instance, if you sacrifice your financial security to save for your kids or put them through college, you may find yourself relying on them to support you in your old age!
Remember that kids have options, such as working, getting scholarships, and taking out federal student loans. However, you won't have any loans or grants to support you in retirement after you stop working. So, only set aside money for your kids if you can genuinely afford it.
Ideally, I recommend having a healthy emergency fund and regularly saving at least 10% to 15% of your gross income for retirement before starting to save for your kids. Later on, if you end up with a surplus of retirement savings, you can help a child by paying off their debts or giving them cash gifts.
The bottom line is that you must first shore up your financial well-being, even if that means saving nothing or less than you'd like for your kids. When the time is right to set aside money for your kids, or if you can afford it now, here are five of the best places to save and invest.
1. High-interest bank savings or CD.
An FDIC-insured bank savings account is one of the safest places to save money for a child's future. The problem is that even high-interest accounts don't offer impressive rates of interest compared to other investment options I'll cover.
Another option is to open a certificate of deposit (CD) with a bank or other financial institution, which may pay higher interest. Many bank CDs are FDIC-insured, and they're also extremely safe.
With a CD, you loan money to the institution, which lends it to its customers, and you receive a fixed rate for a specified period, known as the term. CD terms can range from a few months to a few years. In general, the longer the term, the more interest you receive. When the term ends, you receive your initial deposit plus any accrued interest.
Using FDIC-insured bank savings or a CD means that it's entirely safe from investment risk. However, in exchange for safety, they pay relatively low interest rates. That means you could be leaving many thousands of dollars on the table compared to investing the funds for young kids when you have more time for the money to grow.
Raisin is a great place to compare savings, CDs, and money market accounts at banks and credit unions nationwide. You can see the potential interest and total earnings based on the amount you plan to deposit.
READ ALSO: 4 strategies to earn more interest on savings
2. UGMA or UTMA.
In most states, minors can't own investments and financial products in their names. That means parents can't just give investments or transfer assets to a minor child without creating a trust. The most common trust for minors is a custodial account known as a UGMA (Uniform Gift to Minors Act) or UTMA (Uniform Transfer to Minors Act).
These accounts allow investments for minors, such as mutual funds and real estate, to be held in the care of an account custodian. You can set one up at most banks and brokerage firms, such as Fidelity or Vanguard.
Then, you can make withdrawals to cover expenses that benefit a child. And when they become an adult (usually 18 or 21, depending on your state), the trust assets automatically transfer into the child's name.
The main benefit of using a UGMA or UTMA account is that you can give a child as much money or assets as you like. There are no annual limits, and you can also withdraw funds at any time and for any reason. A portion of the account's investment earnings gets taxed at your child's income tax rate, which can reduce your tax liability.
The downside of UGMA and UTMA accounts is that once the child reaches the age of majority, parents have no control over how the child spends the funds. Also, custodial accounts are considered an asset of the child, which means they're a more significant factor in the calculation for federal financial aid for education than if owned by a parent.
3. 529 college savings plan.
If you're like Natalie, who is specifically thinking about paying for a child's college education, one of the best options is to open a 529 college savings plan. You can contribute funds on any schedule you like and choose how to invest them from a menu of options, such as mutual funds.
You can withdraw 529 funds tax-free if you use them to pay qualified education expenses, such as tuition, fees, books, required equipment, and room and board. They're accepted at U.S.-accredited schools and even at some foreign institutions. For example, you could live in Florida, participate in a New York 529 saving plan, and use the funds to send a child to college in California.
You can even spend up to $10,000 per year tax-free on elementary and secondary school expenses. That gives parents the flexibility to withdraw funds for tuition and other education expenses for a younger child attending a public, private, or religious school.
You can use a 529 plan regardless of your income, and the maximum annual contribution limit depends on the plan you choose, but it could be over six figures per student.
Funds in a 529 belong to the owner, and the account can only have one designated beneficiary, who is the future student. If you want to save for more than one child, you should open a separate 529 account for each of them. But you can also change a 529 beneficiary to another member of the family or roll it over to another 529 without triggering tax consequences.
States generally sponsor their own 529 plans, and many offer additional tax savings, such as a deduction on your state income taxes for contributions. The fees and benefits—such as the maximum contribution limit, investment options, and in-state tax benefits—vary considerably.
Due to the benefits that come with a 529—such as tax advantages, flexibility, and high contribution limits—it earns my vote as the best account for saving for a child's education. Additionally, your 529 distributions get favorable treatment because they're not considered income in the calculation for federal financial aid.
The main drawback is that if you use a 529 for non-qualified education expenses, you'll have to pay income tax plus a 10% penalty on those withdrawals. So, you should never put more in a 529 plan than you estimate your child will need for their total education expenses.
However, if you end up with excess 529 funds and the beneficiary (who is the student) has a Roth IRA, there's a relatively new rule that helps you avoid a 10% penalty. You can roll over up to $35,000 from a 529 into the beneficiary’s Roth IRA over their lifetime, adhering to annual IRA contribution limits. There are several additional stipulations, including having the 529 plan open for at least 15 years and only rolling over contributions that are at least five years old.
To sign up for a 529, you can go directly to the plan manager, use a financial advisor, or start doing your homework at sites such as Savingforcollege.com and PelicanInvests.com.
4. Roth IRA.
Many people are unaware that children can have an IRA if they have earned income from a part-time job or self-employment earnings. As a parent, you can make an IRA contribution on your child's behalf for as much as they earn, up to the annual limit, which is currently $7,000.
But you can't fund an IRA for an infant or toddler who can't legitimately earn income. Therefore, this strategy is only effective for older kids who have a part-time job or earn money during the summer.
However, if Natalie qualifies for a Roth IRA, she can fund it and then take withdrawals to pay future expenses for her children. There is an annual income limit to qualify for a Roth IRA, so if you're a high earner, you'll be prohibited from using one.
For 2025, if your modified adjusted gross income (MAGI) is less than $150,000 as a single person, or less than $236,000 if you’re married and file joint taxes, you’re eligible to max out a Roth IRA.
Unlike other retirement accounts, you can withdraw your original contributions (but not earnings) from a Roth IRA before retirement without having to pay taxes or a 10% early withdrawal penalty. That flexibility makes a Roth IRA an excellent choice for investing in retirement and a child's future expenses.
READ ALSO: Think you’re too rich for a Roth IRA? Think again
5. Life insurance.
Life insurance is a contract that pays one or more beneficiaries after the policyholder's death. There are two main types of life coverage: term and permanent policies.
A term policy pays a cash benefit if you die within a set period, such as 10 or 20 years. A permanent policy covers you no matter when you die, and it may also accumulate a cash value. You can tap the accumulated value or allow it to grow for a child.
If you're relatively young and healthy, a $500,000, 20-year term life policy may only cost less than $20 per month. It's wise to cover both parents, especially if one is a stay-at-home caregiver. If a stay-at-home parent dies, the cost to replace them would be significant.
If you get life insurance through work, it may not be enough. Most companies offer coverage in an amount equal to one or two times your annual salary. Depending on your financial needs and family size, having life coverage in an amount equal to ten times your income is a good rule of thumb.
Also, remember that if you leave your job or get terminated, your life coverage will end. Since you can have multiple life policies, it's wise to maintain your own insurance in addition to any you get through work.
The downside of life insurance is that it typically doesn't provide a benefit until the policyholder dies. However, if you have a permanent policy that builds cash value over time, you could tap it to pay expenses for a child, such as education or a vehicle.
To sum up, depending on your financial situation and goals, parents might use one or more of these options to prepare for future expenses, protect their dependents’ financial futures, and set their kids up for more success.
Before we go, here's a quick reminder to subscribe to The Money Stack, my Substack newsletter, when you visit LauraDAdams.com. It's filled with money tips, tools, news, challenges, and things I enjoy! You can subscribe for free or become a paid member with access to live educational events.
That's all for now. I'll talk to you soon. Until then, here's to living a richer life!
Money Girl is a Quick and Dirty Tips podcast, and I want to thank our fantastic team! Steve Riekeberg audio-engineers the show. Holly Hutchings is our director of podcasts, Morgan Christianson is our advertising operations specialist, and Nathaniel Hoopes is our marketing contractor.