Author Topic: Saving For Children's Future - Notice I Didn't Say Education!  (Read 6565 times)

Acg

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My wife is pregnant with twins (our first and second child!) and we'd really like to get some kind of accounts setup for them before they are born.  We also would like to be the kind of parents that support them if they decide to do something else with their lives that doesn't involve going to college.  So with that in mind we wanted to open accounts that would give them that kind of flexibility. I was thinking we could set things up with at least 50% of "their" money in a 529 account which would motivate them to goto college and if they decide that they didn't want to goto college, then we could just change the beneficiary to the other twin.  What I'm struggling with is what type of account to use for the remaining portion of the account.  Is there anything we can do that would be tax efficient?  Thanks.

Edit: I forgot to mention this in the initial post - We aren't looking to retire early.  I have brain cancer and while I have a relatively good prognosis, it's still brain cancer and I need to face the reality that I might not be around when they get older.  So I'm really just trying to get something established now in case something were to go wrong later.  I also just thought of something else - I know that setting up 529's or trusts will negatively effect their FAFSA application but I'm just concerned about their future if I were not to be around later in their lives.  If I were to pass, would the fact that my wife only had one income have any impact on their FAFSA application even if they have some kind of savings account that is counted towards it?  Thanks again.
« Last Edit: April 05, 2015, 09:35:08 AM by Acg »

wordnerd

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Re: Saving For Children's Future - Notice I Didn't Say Education!
« Reply #1 on: April 04, 2015, 11:30:21 AM »
If you aren't already, you can max Roth IRAs for you and your wife and use the money to fund college and/or your child's burgeoning harpsichord career. Other than that, it seems like a low cost mutual fund (e.g., Vanguard) would be a good option. Not tax-advantaged, but might see higher returns and lower fees than the 529.  One thing to think about is how likely it is that neither child will go to college. The 10% penalty on top of losing the tax-advantage might mean it's worthwhile to pursue other options for all of the savings.

ETA: Congrats on the additions!

ChrisEE

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Re: Saving For Children's Future - Notice I Didn't Say Education!
« Reply #2 on: April 04, 2015, 08:21:11 PM »
Congrats on the twins and on your thinking that far ahead. 

Being that you are on these forums, are you looking to early retire?  If so, something to think about is that with a lower income, your taxable accounts may be taxed at a 0% rate, thus functioning like a Roth IRA or 529 plan from a tax perspective, w/o all of the associated restrictions.  We plan to be done working regularly by the time our daughter is 4-5 y/o and so the taxable path is the one we took for her for the freedom it allows in the event that she doesn't need the money for college.

GizmoTX

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Re: Saving For Children's Future - Notice I Didn't Say Education!
« Reply #3 on: April 04, 2015, 10:02:06 PM »
In our case, tax efficient meant a legal way to avoid the kiddie tax on investments for our child. 529 funds do this, but didn't exist when our son was born, and they are for education only. We wanted broader capability, so we created an irrevocable trust for our son, funded by an annual amount less than the gift tax limit & invested. The trust has its own tax ID number & pays its own tax, which is a lower rate than ours, & we choose low fee investments. We are its trustee. The trust allows payments not only for education but for health or other extraordinary circumstances. We opted to have the trust pay out 50% of any residual upon university graduation, 25% at age 30, & the final 25% at age 35. If our child doesn't graduate, he has to wait until age 30 to receive his first payout.

forummm

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Re: Saving For Children's Future - Notice I Didn't Say Education!
« Reply #4 on: April 05, 2015, 06:50:33 AM »
In our case, tax efficient meant a legal way to avoid the kiddie tax on investments for our child.

Can you describe what you mean by kiddie tax?

Can't you just put funds in a Roth IRA for them (earned income for being cute or cleaning their room, etc)? They'd be below the standard deduction.

Acg

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Re: Saving For Children's Future - Notice I Didn't Say Education!
« Reply #5 on: April 05, 2015, 09:19:50 AM »
Congrats on the twins and on your thinking that far ahead. 

Being that you are on these forums, are you looking to early retire?  If so, something to think about is that with a lower income, your taxable accounts may be taxed at a 0% rate, thus functioning like a Roth IRA or 529 plan from a tax perspective, w/o all of the associated restrictions.  We plan to be done working regularly by the time our daughter is 4-5 y/o and so the taxable path is the one we took for her for the freedom it allows in the event that she doesn't need the money for college.

I forgot to mention this in the initial post - We aren't looking to retire early.  I have brain cancer and while I have a relatively good prognosis, it's still brain cancer and I need to face the reality that I might not be around when they get older.  So I'm really just trying to get something established now in case something were to go wrong later.  I also just thought of something else - I know that setting up 529's or trusts will negatively effect their FAFSA application but I'm just concerned about their future if I were not to be around later in their lives.  If I were to pass, would the fact that my wife only had one income have any impact on their FAFSA application even if they have some kind of savings account that is counted towards it?  Thanks.

bzzzt

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Re: Saving For Children's Future - Notice I Didn't Say Education!
« Reply #6 on: April 05, 2015, 11:40:12 AM »
I forgot to mention this in the initial post - We aren't looking to retire early.  I have brain cancer and while I have a relatively good prognosis, it's still brain cancer and I need to face the reality that I might not be around when they get older.  So I'm really just trying to get something established now in case something were to go wrong later.  I also just thought of something else - I know that setting up 529's or trusts will negatively effect their FAFSA application but I'm just concerned about their future if I were not to be around later in their lives.  If I were to pass, would the fact that my wife only had one income have any impact on their FAFSA application even if they have some kind of savings account that is counted towards it?  Thanks.

My plan is to put money in a UTMA account until my son starts working part time/summer jobs, then begin transfering it over to a Roth which should not get considered by FAFSA. The key with the UTMA account seems to be not letting the gains get high enough where he would have to pay our tax rate, so it will have to be actively managed to keep from seeing too many earnings after a certain point.

Acg

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Re: Saving For Children's Future - Notice I Didn't Say Education!
« Reply #7 on: April 05, 2015, 12:04:43 PM »
I forgot to mention this in the initial post - We aren't looking to retire early.  I have brain cancer and while I have a relatively good prognosis, it's still brain cancer and I need to face the reality that I might not be around when they get older.  So I'm really just trying to get something established now in case something were to go wrong later.  I also just thought of something else - I know that setting up 529's or trusts will negatively effect their FAFSA application but I'm just concerned about their future if I were not to be around later in their lives.  If I were to pass, would the fact that my wife only had one income have any impact on their FAFSA application even if they have some kind of savings account that is counted towards it?  Thanks.

Wouldn't you have to adhere to the annual contribution limits to an IRA?  I'm just wondering if there would be enough time to move it all over from the UTMA to the IRA.

My plan is to put money in a UTMA account until my son starts working part time/summer jobs, then begin transfering it over to a Roth which should not get considered by FAFSA. The key with the UTMA account seems to be not letting the gains get high enough where he would have to pay our tax rate, so it will have to be actively managed to keep from seeing too many earnings after a certain point.

a1smith

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Re: Saving For Children's Future - Notice I Didn't Say Education!
« Reply #8 on: April 05, 2015, 12:08:34 PM »
In our case, tax efficient meant a legal way to avoid the kiddie tax on investments for our child.

Can you describe what you mean by kiddie tax?

Can't you just put funds in a Roth IRA for them (earned income for being cute or cleaning their room, etc)? They'd be below the standard deduction.

From IRS website
Topic 553 - Tax on a Child's Investment Income (Kiddie Tax)

Here is an article discussing child's earned income for Roth IRA contributions.  Summary is have W-2, ideally, or keep really good records.  They mention jobs like mowing yards, taking care of pets, etc.

The Benefits Of Starting An IRA For Your Child

Argyle

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Re: Saving For Children's Future - Notice I Didn't Say Education!
« Reply #9 on: April 05, 2015, 12:38:26 PM »
I don't know how aggressive you want to be in your investments, but note that government savings iBonds are not taxable when used for educational purposes.  So if you bought bonds in their name or in yours and wanted to use them for college, they'd be tax-free, while you wouldn't be locked into using them for college if college proved not to be in the cards.  Of course they're less useful if you didn't want to invest in savings bonds.

GizmoTX

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Re: Saving For Children's Future - Notice I Didn't Say Education!
« Reply #10 on: April 05, 2015, 01:34:31 PM »
The "kiddie tax": All investment income that children receive above the threshold amount is taxed at their parent's highest income tax rate. That rate could be as high as 35%, compared to the 10% rate that most children would be paying. Any unearned income below the standard deduction amount ($1,050 in 2015) is not taxed or reported to the IRS. The kiddie tax applies to children under 19 years of age & children aged 19 through 23 who are full-time students and whose earned income does not exceed half of the annual expenses for their support. To be considered a student, a child must attend school full time during at least five months of the year. It doesn't matter whether the child is claimed as a dependent on the parent's return. However, the tax does not apply to a child under 24 who is married and files a joint tax return.

To help avoid the threshold, investments can be chosen that appreciate in value over time but don't generate much or any taxable income until they're sold. These include index funds, U.S. savings bonds, municipal bonds, growth stocks (no dividends), treasury bonds, tax managed funds. If the investments are sold after the child turns 24 to sell, there's no kiddie tax; with this strategy, a child might use student loans & then pay them off by selling the investments after 24.

We opted for an irrevocable trust because it holds assets outside of our & our child's tax return & pays taxes at a much lower rate than our highest rate. It also avoids the UGMA rule of child ownership at 18, & the trust is not limited to education payouts. We did not expect to be able to qualify for FAFSA.

forummm

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Re: Saving For Children's Future - Notice I Didn't Say Education!
« Reply #11 on: April 05, 2015, 05:07:45 PM »
The "kiddie tax": All investment income that children receive above the threshold amount is taxed at their parent's highest income tax rate. That rate could be as high as 35%, compared to the 10% rate that most children would be paying. Any unearned income below the standard deduction amount ($1,050 in 2015) is not taxed or reported to the IRS. The kiddie tax applies to children under 19 years of age & children aged 19 through 23 who are full-time students and whose earned income does not exceed half of the annual expenses for their support. To be considered a student, a child must attend school full time during at least five months of the year. It doesn't matter whether the child is claimed as a dependent on the parent's return. However, the tax does not apply to a child under 24 who is married and files a joint tax return.

So an IRA would have solved this issue too. It would have become legally your kid's property at 18, but otherwise is a simpler way to avoid the kiddie tax (since there wouldn't be unearned income).

I was thinking about opening a Roth for potential future children. Good to learn more about that.

GizmoTX

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Re: Saving For Children's Future - Notice I Didn't Say Education!
« Reply #12 on: April 05, 2015, 08:27:34 PM »
Does saving for your child's future contradict the lifestyle that you are trying to teach your children.  If you child starts with a nest egg that could support them for the rest of their life, they will never have to try and build their wealth like you did.  Does this defeat the purpose?  Essentially they would never have to work and would start his or her life retired.

This was a concern of ours, as it totally depends upon the work ethic & goals of each individual. Some do, some don't. Our kid has had a life rich with experiences & our attention, but never entitled. We love the adult he has become even more than the child he has left behind. He has worked very hard to fully understand the content of his university courses, not just get excellent grades. We would be very surprised if he did not use his skills after graduation, but of course time will tell. Everyone needs to find a meaningful occupation, not to be confused with a job. Being FI brings freedom.

GizmoTX

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Re: Saving For Children's Future - Notice I Didn't Say Education!
« Reply #13 on: April 05, 2015, 08:35:45 PM »
So an IRA would have solved this issue too. It would have become legally your kid's property at 18, but otherwise is a simpler way to avoid the kiddie tax (since there wouldn't be unearned income). I was thinking about opening a Roth for potential future children.

A Roth IRA has a much lower annual limit than the gift tax exclusion, so the power of compounding is significantly greater with a trust, which can be established at birth.

You cannot open a Roth for potential future children, only yourself. A 529 would be a better vehicle for kids, as it can be opened at birth & earns tax free.

forummm

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Re: Saving For Children's Future - Notice I Didn't Say Education!
« Reply #14 on: April 06, 2015, 09:25:02 AM »
So an IRA would have solved this issue too. It would have become legally your kid's property at 18, but otherwise is a simpler way to avoid the kiddie tax (since there wouldn't be unearned income). I was thinking about opening a Roth for potential future children.

A Roth IRA has a much lower annual limit than the gift tax exclusion, so the power of compounding is significantly greater with a trust, which can be established at birth.

You cannot open a Roth for potential future children, only yourself. A 529 would be a better vehicle for kids, as it can be opened at birth & earns tax free.

Right. I meant I was thinking about doing it in the future--when I actually had kids. I think the Roth's limit is about as much as I'd want to give, or could afford to give, in a year to a kid. In part for reasons mentioned by other posters. I think I've benefitted from not having money handed to me in many ways. It sure would have been nicer to have money handed to me. Maybe I would have enjoyed my life more. Hard to know though. So I would worry about changing their worldview too much. I even have trouble with paying for their college. I didn't get a cent from my parents, and I think that has taught me a lot. It would have been nicer and easier to get handed large sums from my parents. But, again, it's hard to know where the balance is between that kind of enjoyment at the time and life lessons for the rest of my life.

Scandium

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Re: Saving For Children's Future - Notice I Didn't Say Education!
« Reply #15 on: April 06, 2015, 11:15:39 AM »
How much money are you thinking here? I've decided not to set up a separate account for our child at this point, except a 529. I have a taxable investment account and if he needs money for something in the future I can give it to him then (or not if I think it's stupid..). You can give $28,000/year tax free to your child, which should cover a lot. Now if you were thinking several $100k then it's a different story.

Of course I plan to have him set up his own IRA when that time comes, but don't see the need for a separate account in his name at this time. And of course that's bad for college aid purposes too.

frugalnacho

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Re: Saving For Children's Future - Notice I Didn't Say Education!
« Reply #16 on: April 06, 2015, 11:20:15 AM »
Someone correct me if i'm wrong...

The concern about the "gift tax" is totally misplaced.  You can only give $14k/yr to any individual person tax free, and if you go above that you just deduct it from your life time allowance of $1M, you don't actually pay tax (and neither does the recipient) on that money until you exceed that life time limit.  So unless you plan to gift in excess of $1M (in additional to the excluded $14k/person/yr) the gift tax is a non concern.  Just gift them as much as you want, and deduct the excess above $14k from your $1M lifetime allowance and be done with it.

You can open a UGTM custodial account for the kid.  The child only gets nabbed for the "kiddie tax" if their investment income exceeds $2,000.   If you don't sell the asset and realize capital gains the child would need a pretty large balance to exceed the $2,000 in income.   Like $100k worth of large.

If the child knows they will be going to college and want to use that money for college you can transfer the account into a 529 plan.  All the money is still available for the child, but won't be counted against them for financial aid.  If they choose not to use it for college then you just leave it in the UGTM account.

GizmoTX

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Re: Saving For Children's Future - Notice I Didn't Say Education!
« Reply #17 on: April 06, 2015, 11:30:29 AM »
My parents paid for one semester's worth of room & board for three years -- I had to figure out how to get the rest (75%). I had a scholarship for tuition at my state school. I worked full time during the summers & part time during school, minimum wage. I made all my clothes. However, DH had all of his college expenses paid by his parents. I think either approach works if the student is raised to work hard & not squander the opportunities. DS gets his tuition, books, room & board paid but he is responsible for everything else. Since he knows that anything the trust pays reduces what he will eventually get, he works hard for scholarships, teaching assistantships, & paid internships.

We have a nephew who is almost 23 & has been taking an average of one course a semester at the community college since HS. He absolutely does not want to work. His dad/my brother is currently a postal worker & has always found ways to support his family, even when laid off, but somehow that mindset wasn't passed to his son. The nephew is living on UGMA stocks from his grandparents that were meant for his education -- we've concluded that he will only look for a job after this money runs out. However, he is frugal, at least so far.

GizmoTX

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Re: Saving For Children's Future - Notice I Didn't Say Education!
« Reply #18 on: April 06, 2015, 11:41:45 AM »
An educational trust is attractive if the parents' tax bracket is higher than 15% and significant money will eventually be invested -- the trust saves the difference. 529s did not exist when we created the trust.

The gift tax exclusion only sets the maximum tax free contribution per year -- we do not want to touch our lifetime exclusion until one of us dies.

forummm

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Re: Saving For Children's Future - Notice I Didn't Say Education!
« Reply #19 on: April 06, 2015, 11:44:20 AM »
Someone correct me if i'm wrong...

The concern about the "gift tax" is totally misplaced.  You can only give $14k/yr to any individual person tax free, and if you go above that you just deduct it from your life time allowance of $1M, you don't actually pay tax (and neither does the recipient) on that money until you exceed that life time limit.  So unless you plan to gift in excess of $1M (in additional to the excluded $14k/person/yr) the gift tax is a non concern.  Just gift them as much as you want, and deduct the excess above $14k from your $1M lifetime allowance and be done with it.

You can open a UGTM custodial account for the kid.  The child only gets nabbed for the "kiddie tax" if their investment income exceeds $2,000.   If you don't sell the asset and realize capital gains the child would need a pretty large balance to exceed the $2,000 in income.   Like $100k worth of large.

If the child knows they will be going to college and want to use that money for college you can transfer the account into a 529 plan.  All the money is still available for the child, but won't be counted against them for financial aid.  If they choose not to use it for college then you just leave it in the UGTM account.

Good points. Also, IRA funds can be used for qualified educational expenses without incurring any penalty. Unless you want to give a lot of money to your young kids all at once, an IRA would be available both to provide retirement savings and to provide money for educational expenses. And money in an IRA wouldn't be subject to the Kiddie Tax, since that's only on unearned taxable income.

frugalnacho

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Re: Saving For Children's Future - Notice I Didn't Say Education!
« Reply #20 on: April 06, 2015, 12:02:42 PM »
An educational trust is attractive if the parents' tax bracket is higher than 15% and significant money will eventually be invested -- the trust saves the difference. 529s did not exist when we created the trust.

The gift tax exclusion only sets the maximum tax free contribution per year -- we do not want to touch our lifetime exclusion until one of us dies.

Why do you not want to touch your gift tax exclusion until one of you dies?  I also thought the $1M exclusion (which is per person) was for while you are alive, and once you die your estate gift tax exclusion is extended up to like $5.5M (which already includes your $1M life time limit, so if you use that your estate exclusion will be reduced accordingly).  So you could in theory use up your entire $1M life time gift exclusion, and then leave an estate of $4M+ to your children, and still no one will ever pay any gift tax on any of it. And your wife has her own limits in addition to your limits.  And if you are married and die then it triggers no gift tax of any kind, one spouses assets are legally the other spouses assets.

It just doesn't seem to be an issue to be unless you are gifting hundreds and hundreds of thousands of dollars to someone, or you die with a $5.5M+ estate. 


GizmoTX

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Re: Saving For Children's Future - Notice I Didn't Say Education!
« Reply #21 on: April 06, 2015, 12:28:52 PM »
Our NW is more than 5.5M.

forummm

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Re: Saving For Children's Future - Notice I Didn't Say Education!
« Reply #22 on: April 06, 2015, 01:06:02 PM »
Our NW is more than 5.5M.

Congrats on the impressive stash! The exclusion for couples is almost $11M. But you probably know that. It seems like you know what you are doing.

Personally, I wouldn't give my kids more than that much money. I would leave anything beyond that to charity (and probably quite a bit below that). But that's your call.

I guess my personal philsophy is that if it's more money than I would need to live my whole life on, then I wouldn't want my kids to have that much. I worry about spoiling them. I think there are definitely benefits that come with access to resources (like being better able to start a business or otherwise do what you want with life). It really depends on the person. I would be more or less the same person if someone handed me $1 billion today. I wouldn't spend 99.9% of the money and would look for good uses for it. But I'm pretty well baked at this point. I wonder how that changes for a kid who is still developing.

I'm sure you've thought about all of this. Just my random musings on an Internet chat board.

a1smith

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Re: Saving For Children's Future - Notice I Didn't Say Education!
« Reply #23 on: April 06, 2015, 10:30:48 PM »
Bill and Melinda Gates don't want to spoil their kids so they are only leaving them $10M each!  :-D

Why the super-rich arent leaving much of their fortunes to their kids