IRA for baby

[wakkowarner]

Ok, so my baby son (about 7 months old now) recently got paid $300 for a photo-shoot he did for a hospital's advertising campaign.  This was most likely a one time deal, it's not like he will be earning money on a regular basis (a friend was involved in the campaign and suggested our child for the campaign).  Now while I wouldn't mind him (or his twin sister) to get more work I'm not counting on it.

So he has $300 of earned income.  So I'm thinking Roth IRA since my 529 contributions are already helping with college (and he doesn't have any other earned income so tax savings now isn't a big deal).  Plus an additional 15 years of growth for the typical starting time for an IRA would be good.

So I'm looking for some advice on how to best invest this.  I know that an IRA is really just a bucket (or label) to marks the money as tax-free growth.  So it could be an IRA certificate of deposit.  Or an IRA brokerage account where he buys ETFs or mutual funds.  Or I could set up a DRP.  The challenge is the low dollar amount.  I would really like to invest in the stock market for the highest possible gains over the long term (if anyone has any other investment options).  That would rule out a CD.  The small amount of money would rule out most mutual funds, especially the very low cost Vanguard funds (though if it eventually got big enough due to market gains it could be transferred to a lower expense fund later).  The ETFs could be done to take care of the low amount of money available but they may not use all of the money available (since they buy and sell for fixed prices).  Also I'm not sure if I'd be able to cover the trading costs with my own money (money outside of the $300 for investing), which I think would be beneficial if that is somehow possible.  All of these issue could be solved with a DRP, but that would involve only investing in a single company.  I'd really like something that covers the world market (or at least the total US stock market, something like VT or VTI + VXUS).

So any suggestions on how I can best handle an IRA only $300 in size that can't be contributed to for awhile?

Or any suggestions on any legal ways I might be able to contribute more to his IRA (and get one going for his sister). I also have a 13-year-old I'm looking to get started on for his IRA also, though he's only been paid by family for helping with yard work and other such things.

[johnny847]

Be careful about how much you put in. I'm guessing that this income will count as "self-employed" income. If that's the case, you can't contribute the full $300 to a Roth IRA in his name, because some of that money would have been paid as FICA tax if it was on a W-2. Try a calculator like this one: https://personal.vanguard.com/us/SbsCalculatorController?FW_Event=chgBusType&NavStep=1. It's actually for self employed retirement accounts you don't want to mess with, but put in sole proprietor. The contribution percent doesn't matter. Then the SIMPLE IRA maximum employee amount is what you/your son can contribute.

Looks like Schwab is a good option for you/your son: http://www.schwab.com/public/schwab/investing/accounts_products/accounts/ira/custodial_ira. No fees as long as you're buying Schwab ETFs, $100 account minimum.

The only legal way to contribute more to his IRA is if he gets more legitimate income.
Be careful about "wages" from house work - in most cases the IRS does not consider that earned income, meaning your 13 year old can't contribute to an IRA with that money.

[wakkowarner]

Thanks for the input on the Schwab account, that looks like a very promising option.

Yeah, it looks like there is a $400 threshold before you need to file taxes.  But I don't know if that means that if you have less than $400 income that you should not (i.e. is it optional under $400).  I'd think I would need to, if I was contributing it to an IRA.

It does seem that being under that limit keeps you from having to pay self-employment tax at least.  But as far as Medicare and and FICA, I don't know.  And how can I know for sure?  I mean, if I contribute 1 penny more than I should then I could get in trouble.  So does that mean I should just wait until I'm ready to file taxes, all the calculations are done and then contribute before the deadline?

And yes, I'm aware of needing more legitimate income to contribute more.  That's why I was looking to see if anyone had suggestions.  I know that it must be work paid at a reasonable wage that any adult could also earn.  My parents pay to have their lawn cut by a professional lawn service.  But if my 13-year-old were to take over those duties, could he claim that as earned income and contribute to an IRA?  What if it weren't his grandparents and instead was a neighbor?  I know he earned some money last winter shoveling driveways.  I mean, if I were doing the same thing, the IRS would expect me to report it as income and for me to pay taxes on it.  It's earned income and I can contribute it to an IRA.  So my 13-year-old should be able to do the same, correct?

[forummm]

Let's say a kid of whatever age has $5500 in income one year. Through the personal exemption, the kid's federal taxes would be $0. States vary, but the amount would be zero or small. And SE tax would be around $841.50 or less. But would also give the kid 4 SS and Medicare credits. As well as a lifetime of tax-free growth of that $5500 (easily several hundred grand in today's dollars by traditional retirement age). I guess that's worth thinking about.

It feels like there would be a way for kids to avoid SE tax at the several thousand dollar level.

[forummm]

Yeah, it looks like there is a $400 threshold before you need to file taxes. 

This says the filing requirement is $6200 for a dependent with only earned income. It gets more complicated if the kid has a taxable bank account.
http://www.irs.gov/publications/p929/ar02.html#en_US_2014_publink1000203740

But the trigger for self-employment tax is $400. So if they work at Burger King and make $5500, they don't have to file as long as they claimed exempt from withholding on the W-4 (otherwise they would want to file to get a refund). But if they were mowing lawns or being models they might have SE tax to file.

[MDM]

Looks like Schwab is a good option for you/your son: http://www.schwab.com/public/schwab/investing/accounts_products/accounts/ira/custodial_ira. No fees as long as you're buying Schwab ETFs, $100 account minimum.

+1

See also http://forum.mrmoneymustache.com/investor-alley/where-to-start-a-child%27s-roth-ira-with-very-low-income/

[wakkowarner]

Thanks for the link MDM.  I tried searching the forums but my word choice didn't bring up your thread.

So it does seem that my 13-year-old's lawn care work could go towards an IRA.  So I think I'm going to open an custodial account for both of my sons.  Will need to see if the baby can get some more work  though to contribute more. :)

As for the older son, he's been really good about savings, but time for him to get into the nitty gritty of some of this investing talk his dad's been giving him for years.

Still gotta figure out something with my daughter.  They were thinking about using her for the shoot, but because of her oxygen still being on at the time they figured it would be easier to just use the boy.

[James1]

Long time lurker, but I thought I'd share our experience with this.

We have contributed to our kids' Roth for the last 3 years. They earn just under $400/yr each selling eggs and farm produce. In order to contribute, they have to file a tax return even though they will pay $0 in taxes. You can't just say they earned some money, their contribution cannot exceed the earned income amount on the tax return. We also still claim them as dependents on our tax return.

Their accounts at Schwab were easy to setup and  find a low cost fund to invest in. I can even manage them from the same login as my other accounts. The only issue I have with the Schwab custodial accounts is that they do not automatically stop/switch when the child reaches 18. Even though I'm 33, my father can still see (and maybe even make changes to) my account that he opened for me when I was 13 even though I have continued making contributions. Schwab will also only keep contribution records for 10 years, so make sure you document this for your young children.

[MDM]

In order to contribute, they have to file a tax return even though they will pay $0 in taxes. You can't just say they earned some money....

Not sure about that.  Could you provide a reference if so? From http://www.irs.gov/uac/Do-I-have-to-File-a-Tax-Return%3F it does not appear that contributing to a Roth IRA triggers a filing requirement.

The firm holding the IRA money (Schwab in this case) does have to file Form 5498 with the IRS and provide you a copy.

their contribution cannot exceed the earned income amount

Yes, that is still true, so you should have documentation if audited.

[James1]

In order to contribute, they have to file a tax return even though they will pay $0 in taxes. You can't just say they earned some money....

Not sure about that.  Could you provide a reference if so? From http://www.irs.gov/uac/Do-I-have-to-File-a-Tax-Return%3F it does not appear that contributing to a Roth IRA triggers a filing requirement.

Good point! I have not looked up the tax code. I was told to file a return by Schwab and a CPA. For the 5 min a year it takes for me to file the returns and the documentation support it provides if the IRS ever comes knocking, it's never been worth the time to look it up!

After taking a few minutes to research it, all I found was conflicting articles. Some said it was required and other said it was not (at those income levels). I saw no information regarding this situation from the IRS.

[NICE!]

2 questions - one objective, one normative:

1) Can you "pay" your child(ren) for household chores and use that money to contribute to an IRA? For example, let's say I have a 10 year-old that does dishes, laundry, and mows the lawn. I decide that $100/month is fair. Could I throw all of that in an IRA for them or would I have to go through the process of creating a 1099 for the kid and paying FICA?

2) If a non-working spouse can have an IRA based upon the income of a working spouse, shouldn't it stand to reason that children/other dependents can as well?

[forummm]

2) If a non-working spouse can have an IRA based upon the income of a working spouse, shouldn't it stand to reason that children/other dependents can as well?

That doesn't necessarily follow logically because you are not married to your children. Marriage is a special contract where the two partners decide that their things belong to each other (with some restrictions). Your kids don't automatically get ownership of your money. You can give them a substantial amount each year. But that doesn't satisfy the "earned" part of the income. For your spouse, they are using your *earned* income because you earned it and part of it is theirs too.

I hope to hear a good answer to your first question.

[MDM]

1) Can you "pay" your child(ren) for household chores and use that money to contribute to an IRA? For example, let's say I have a 10 year-old that does dishes, laundry, and mows the lawn. I decide that $100/month is fair. Could I throw all of that in an IRA for them or would I have to go through the process of creating a 1099 for the kid and paying FICA?

Based on http://www.irs.gov/Businesses/Small-Businesses-&-Self-Employed/Am-I-Required-to-File-a-Form-1099-or-Other-Information-Return one could conclude you don't need to provide a 1099 (assuming you aren't having chores done on behalf of your business).

Based on http://www.irs.gov/Businesses/Small-Businesses-&-Self-Employed/Self-Employment-Tax-Social-Security-and-Medicare-Taxes, the child owes no self-employment tax if the earnings are less than $400.

There was a little discussion about this in http://forum.mrmoneymustache.com/mini-money-mustaches/paying-kids-for-work-around-the-house/, but nothing definite.  See also http://fairmark.com/retirement/roth-accounts/contributions-to-roth-accounts/roth-iras-for-minors/ for relevant discussion.

[wakkowarner]

I had always heard (no definite yes or no, though I do recall reading something similar to articles referenced by MDM) that "chore" money (i.e. allowance) wasn't eligible for earned income and thus IRA contribution.  But if you ran a business at home and employed your children and they earned a fair income then it was allowable.

Which honestly doesn't make much sense.  I say this because I've found in the tax code that you must report barter income to the IRS for tax purposes.  So say if I agree to fix my sister's computer, and in exchange for that she cuts my hair, I was compensated the equivalent of $15 (or whatever the going rate for a haircut would be) and she was compensated $100 (or whatever the going rate for the repair would be) and that's what should be reported on our taxes. 

But for people interested there has been a proposal out there for a few years for a kid's IRA, allowing contributions similar to the spousal IRA.  For those interested see the RAYS act: https://www.congress.gov/bill/113th-congress/house-bill/4129

Also I haven't reviewed everything at this site, but looks like it could have some good info: http://irakids.com/

[Scandium]

This is interesting, but seems a but muddled. What's the easiest way to give my kid W-2 income? At a young age so no McDonalds or coal mining job quite yet. Register a non-profit making business and "employ" them? But that would incur some taxes on me as the employer, not to mention child labor laws..

Is the self-employed route the easiest, even with taxes?