Harness the Power of Time with a Roth IRA

Do you have a child or grandchild who is planning to work this summer? If so, then here’s a great way to begin a financial conversation with your “student” and at the same time provide an incentive plan for long-term savings.

Roth IRAs are a particularly good long-term savings vehicle for a youngster with occasional earnings. A child with earned income may contribute up to $5,000 per year to a Roth IRA and years from now benefit from the Roth’s tax-free withdrawals in retirement. Note that in any given year, Roth IRA contributions cannot exceed the amount of the child’s total earned income.

A 20 year old that invests $1,000 a year for the next eight years could accumulate nearly $200,000 of tax-free savings by age 65, given an 8% annual return on the account. Of course, contributions every year would grow that number even faster. It goes without saying that investment returns lower than 8% would also alter the outcome – as would premature withdrawals.

Roth IRA Example

A 20 year old who contributes $1,000 per year for 8 years into a Roth IRA, makes no more contributions from then on, and earns an 8% average return every year until age 65 will have nearly $200,000 by age 65.

 Think about providing an incentive for the youngster in your life to establish good savings habits. Here’s how: Help them set up a Roth IRA at a mutual fund company, kick-start the account with a $500 initial contribution and then match 50% or 100% of every dollar the child contributes. Encourage future contributions by continuing your match each year if you can afford to do so.

And, of course, at Woodward Financial Advisors we have more ideas and resources for helping you begin, or sustain, a healthy financial dialogue your “kids.”  Showing them the chart above may provide some added motivation!

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