When working teens invest early in a Roth IRA, they can contribute to a strategy that could accumulate millions later in retirement. Working teens can contribute to a Roth IRA when a parent or grandparent opens the account. A Roth IRA can be opened at any age if a child has income. For example, if your five-year-old child was a model for a local store and received a paycheck in their name, the amount received can be contributed to a Roth IRA.
Working teens receiving W-2 income with a checking account in their name can have automatic contributions deducted and deposited into their Roth IRA. Or, if the teen doesn’t receive a W-2 for money from mowing lawns, babysitting, or other work, the income must be reported to the IRS through income tax filing to qualify for Roth IRA contributions. However, due to the teen’s low income, they likely will not have to pay social security, local and federal taxes.
The teen doesn’t need to make contributions themselves. Parents and grandparents can contribute on the teen’s behalf if it doesn’t exceed the teen’s income for the year and is below the IRS limits. Here are other things to know about Roth IRAs for working teens:
- Roth IRAs fund with after-tax contributions, so taxes are paid upfront.
- The Roth IRA will be a custodial account managed by a parent or grandparent.
- Over time, the contributions accumulate, and when taking distributions, both the contribution and accumulation are tax-free.
- Contributions can be withdrawn tax and penalty-free for education, emergencies, home purchases, and more.
- Withdrawing the accumulation before the account has been open for at least five years, or age 59 ½, will result in a 10% IRS penalty.
- The Roth IRA will transfer to the teen’s ownership once they’re 18-21 years old, depending on their state’s regulations.
- Working teens can contribute up to the IRS 2023 limit of $6500 or up to their yearly income if they make less than $6,500.
There are many reasons why parents and grandparents may want to open a Roth IRA for a teen:
- Teach the child about saving and investing.
- Demonstrate the time value of money and accumulation.
- Tax-free income in retirement.
- Due to income limits, they may not qualify to contribute to a Roth IRA in adulthood.
- Matching their pay with contributions may motive your teen to work.
Why Start Now?
There are many reasons why parents and grandparents may want to open a Roth IRA for a teen:
- Teach the child about saving and investing.
- Demonstrate the time value of money and accumulation.
- Tax-free income in retirement.
- Due to income limits, they may not qualify to contribute to a Roth IRA in adulthood.
- Matching their pay with contributions may motive your teen to work.
Early exposure to saving and investing can help teens learn about investment strategies and confidently manage their finances throughout adulthood. If you have questions about Roth IRAs and their appropriateness for your teen and your situation, visit your financial and tax professionals.
