Buying stock for a child may not be the first thing you think of when purchasing gifts, but it can be one of the most memorable. Even if your child doesn’t understand right now, as they get older, it’s easier to understand and appreciate the gift that helps them have a successful financial future.
Why invest for kids
You might think the best gift you can give kids comes in a big box with a bright shiny bow, but sometimes buying stock for a child reaps even greater rewards. The more time the investments have to grow, the more rewarding the gift becomes. Material gifts lose value, not to mention interest, but financial gifts are the gifts that keep on giving.
If you’re on the fence about investing for your kids, consider these important reasons.
Kids learn by doing, and financial literacy is one of those hands-on skills. Growing up learning about stocks and investments makes the financial jargon feel natural, just like eating and exercising.
Kids that have investments won’t have the significant learning curve those that don’t have exposure to investments early on miss. So making smart financial decisions early in life can make a huge difference in your child’s life.
Together you and your child can explore different investment strategies and track the progress of said investments. Kids naturally build skills by listening to you and/or managing the investments themselves. You can even give kids the option to make age-appropriate decisions regarding their investments to see the consequences and opportunity costs of various choices.
Get a head start
Time is something you cannot buy, but buying shares for a child early in life gives them the head start needed. The earlier your child invests, the more time there is for compound earnings. For example, if your child invested $500 a year for 18 years with an average 8% return, they could have $10,000 or more just in earnings (not principal).
Nothing compares to the power of compound earnings when giving a child a gift. Sure, a shiny truck or bike will put a temporary smile on their face, but buying stock for a child will help them create a lifetime of wealth.
Think of it as the gift that keeps on giving. Kids lose interest in material things after a short time, but no one ever tires of or regrets wealth.
Buying stock for a child 101
If you’re thinking of buying stock for a child, here are four simple steps to follow.
1. Create an investment goal
The end goal will help determine your next steps, including the type of stocks you choose and how aggressively you invest. The more time your child has between the contributions and the end goal timeline, the more aggressively you can invest.
2. Choose the type of stock
If you’re buying shares for a child of individual stocks versus index funds (already diversified funds), consider investing in companies your child cares about. For example, does your child love Disney? Maybe you have a child that’s passionate about the environment or going green.
Look for stocks your child can identify with and/or get excited about. This may help them learn more about investing because they will be more interested in learning about the company and tracking their performance to see how their investments do.
3. Open and fund your account
The easiest way to buy stock for a child is to open a custodial account, aka UTMA/UGMA accounts. This stands for Uniform Transfers to Minors Act or Uniform Gift Minors Act. Basically, it’s an account you, as the adult, hold for your child until they reach a certain age. Upon reaching that age, the child can take over managing the account.
You can link your checking account to the brokerage account and fund the account as you see fit.
4. Determine your asset allocation
Just like you’d do for yourself, choose an asset allocation that helps your child reach their financial goals. Then, as your child gets older and closer to said goal, adjust the asset allocation to account for their goals and timelines.
For example, if your child is saving for college, you may want to make the portfolio slightly more conservative as they enter the teen years and is closer to choosing where they will go to school.
Kids investing books
Hands-on practice is great, but nothing can replace good old-fashioned reading to learn more about investing for kids.
Here are some great books you and your kids can read together to learn more about investing.
Investing for Kids: How to Save, Invest and Grow Money
This book is tailored to kids ages 8 – 12. Not only does it talk about investing, but it starts at the basics, helping kids learn how to make money, save it, and eventually invest it. The book has characters that kids can relate to, including Mr. Finance and Investing Woman, to keep kids engaged and learning about stocks, bonds, and portfolio allocations.
Money Ninja helps kids understand at their level about instant gratification and how it’s not worth it. Geared towards ages 3 – 11, this book helps kids understand the importance of delayed gratification while making them laugh throughout the book with its funny characters and relatable storylines.
The bright colors and fun characters make saving and investing seem much more fun than running to the store to spend their money right away.
This book breaks down the hard topics of stocks, bonds, investing, and saving in terms kids can understand. It’s not as animated or comedic as the above two books, but it’s a must-have in any child’s collection as they learn the ins and outs of handling money.
Types of investments for kids
Investing for kids doesn’t mean just buying stock for a child. Like adults, kids can have a well-diversified portfolio and many different types of accounts to take advantage of tax breaks and help them reach their financial goals.
Stocks are an investment in a company. So buying shares for children makes them part owners of a company. What a cool way for kids to feel empowered! You can invest in companies your child knows or in industries/companies your child is passionate about to drive the lesson home even further.
- You can reinvest any dividends earned and compound your child’s earnings even further
- Kids take pride in owning a part of a company
- Kids have a say in what companies/industries they invest in
- Stocks can be risky, putting your child’s investments at stake
- It can be hard to choose the right companies or industries to invest in
Buying a bond for child is a more conservative investment than stocks and is often a great complement to stocks to offset the risk they create. Government bonds are the least risky (with the lowest returns), and corporate bonds are a close second. If you’re thinking of buying a bond for a child, consider the pros and cons first.
- Most bonds have guaranteed returns
- You choose the bond’s maturity (when your child will receive their earnings)
- They are a great way to offset risky investments
- The returns are low
- There’s nothing to track or watch the progress of like stocks
A 529 account is a college savings account. Anyone can contribute to your child’s account. Contributions may be tax-deductible, and the money contributed grows tax-free. The withdrawals are tax-free if your child uses the funds for acceptable educational purposes (K-12) or post-high school education.
- Your contributions may be deductible at the state level
- You can switch beneficiaries if one child decides not to go to college; you can add another child
- Anyone can contribute (grandparents, aunts, uncles, and friends)
- The investment options are typically limited
- If the funds are used for anything except education, they are taxed upon withdrawal
Formerly known as the Education IRA, the ESA or Coverdell Education Savings Account is another way to save for your child’s college education. Contributions aren’t deductible like the 529 plan, with an annual limit of $2,000 a year in contributions. The withdrawals are tax-free as long as the funds are used for allowed educational expenses. Any amount withdrawn beyond the actual cost of a child’s education is taxed at the child’s tax rate.
- Your child can use the funds for a large number of education expenses
- Funds grow tax-deferred while they are in the account
- Withdrawals are tax-free as long as they are used for educational expenses
- Children must use the funds by age 30, or they’ll pay taxes and potential penalties
- There is an income eligibility limit for families contributing
- You can only contribute up to $2,000 per year
Custodial brokerage accounts
A custodial brokerage account makes buying stock for a child for any purpose, not just college, simple. You open the account in your child’s name, but you are the guardian. You are in charge of the account until your child reaches a designated age, at which point they can take over. There aren’t any tax benefits to a regular brokerage account, but kids can use the funds for any purpose.
- Kids have control of their money when they reach a specific age
- You can invest in just about anything that you and your child decide is a good fit
- Kids can use the money however they want
- Most brokerage accounts have fees
- There aren’t any tax benefits
It’s never too early to think about retirement, even for children. If your child has a job (it could be super part-time), you can contribute up to $6,000 in an IRA for them. A traditional IRA provides you with a tax deduction on the contributions. Your child pays taxes on withdrawals (during retirement) in their own tax bracket.
Many parents also open a Roth IRA for their children. With a Roth IRA, you contribute post-tax funds, and the contributions and earnings grow tax-free. Kids can use the contributions (not earnings) for any purpose (college, buy a home, or anything else) and not pay taxes. All funds, including earnings, are tax-free if they leave the funds through retirement.
- Sets your child up for retirement with plenty of time for compound earnings
- Kids can use the funds for any purpose before retirement as long as they don’t touch the earnings
- Kids get tax benefits in retirement with either a traditional or Roth IRA
- There is a penalty of 10% if kids withdraw funds before retirement with a traditional IRA or if they withdraw earnings early in a Roth IRA
- The investment options may be limited
Can you start a stock account for a child?
There are many ways buying stock for a child is possible. Whether you set up a college savings account, ESA, or just open a custodial brokerage account with your child. The earlier you invest for your child, the more time they have for the money to compound.
What’s the best way to invest money for a child?
The best way to invest money for a child depends on the ultimate goal. For example, are you saving for college or something more long-term like retirement? You have the timeline, risk tolerance, and amount of contributions to determine the best way to invest money for a child, whether it’s a college savings account or a traditional brokerage account.
What is a good stock to buy for a child?
When buying shares for children, the best stock is the one they are interested in or care about. Think about their passions, likes, or even what they want to do when they grow up. This will lead you to the companies that your child is likely to be interested in following, which is the best stock to buy for a child.
How to open a custodial account for stocks?
To open a custodial account for stocks, you’ll open a UTMA or UGMA, depending on if you’re the parent or another relative. The person opening the account controls it until the child reaches the state’s minimum maturity age (18 – 25 years old). After that, you remain on the account until your child reaches maturity, at which point they take control of it.
Final thoughts on investing for kids
Buying stock for a child may feel weird at first, but it’s one of the best gifts you can give your children. Whether you invest for college or just life in general, your children will be grateful for the gift when they are an adult and already have the money needed to do big things like buying a house or paying for college.