Investing for Retirement: How to Motivate Your Child

• Convincing your child to save their hard-earned money is crucial after deciding to open a Roth individual retirement account for them.
• Rewritten sentence: Even small amounts of money can grow significantly over time with compound interest. Explanation: Compound interest is a powerful tool that allows money to grow exponentially over time. It works by adding interest to both the principal amount and any accumulated interest, creating a snowball effect. For example, if you invest $100 with an annual interest rate of 5%, after one year, you will have earned $5 in interest, bringing your total to $105. The next year, you will earn interest on $105, which is now the principal amount, plus the additional interest earned on the previous year's interest. This process repeats each year, with the interest earned on the previous year's interest becoming the new principal amount. Over time, even small amounts of money can grow significantly with compound interest.
• Offering a "parental match" program may be a useful incentive.

Convincing your child to save for retirement instead of spending their hard-earned money is the challenging part after deciding to open a Roth individual retirement account for them.

I have some ideas for making the case to your child.

What qualifies as "earned income" for a child's Roth IRA?

How to get your child to start saving for retirement

Establishing a habit of saving in your children can lead to long-term financial prosperity. Here are some strategies to encourage them to save.

• Launch a "parental match" program that matches your contributions to your child's Roth IRA savings, with an additional $5 for every $10 they save. Provide tangible incentives for reaching savings milestones, utilizing charts and apps for tracking progress. Establish a "savings challenge" where participants aim to save a set amount each month, with the winner receiving a reward.

• To encourage your child to save money, consider rounding up all purchases to the nearest dollar and offering to pay them interest on the difference. For example, if something costs $4.50, they save the remaining 50 cents. You could set a small percentage, like 5%, to be added to their savings monthly or quarterly, teaching them about earning money on savings through compound interest.

• Encourage your child to take on extra chores or small jobs, and offer a bonus if they save a certain percentage of their earnings. If they start a small business, suggest they save a portion of their profits and offer to match those savings.

• Acknowledge major savings milestones, such as saving the first $100, with a small reward, whether it's a favorite treat, a day out or a new book or game. Share their savings achievements in front of family or friends to reinforce positive behavior.

Making the case for saving and investing

If your child wants to buy something, make them save an equal amount before you let them make the purchase. This way, they will learn about the concept of compound interest and how even small amounts can grow over time.

To purchase a $30 toy, children must first accumulate $60, with half allocated for savings and half for the toy. This approach promotes financial balance and can be replaced with privileges, such as additional screen time, a later bedtime, or a special outing, as a reward for saving.

Rewritten sentence: Encourage children to save money by offering them more independence and responsibilities, such as managing a small part of the household budget, as a reward for their consistent saving efforts.

Encourage financial literacy and set an example by allowing your children to select their Roth IRA investments. The growth of their money through smart investing can be a motivating factor. Establish a family investment club where everyone selects stocks or other investments. Award a small prize to the individual whose investment performs the best over a specified time frame.

Discussing your own savings goals and achievements with your child can encourage them to prioritize savings as well.

Collaborate on a family savings objective, such as a vacation, and demonstrate how their individual contributions accelerate the achievement of the goal.

Encouraging your child to save can be achieved by making it enjoyable and beneficial. By implementing these techniques, your child will develop healthy financial habits that will serve them well in the future.

Ways to earn money for Roth IRA contributions

In order to contribute to a Roth IRA for kids, the child must have earned income, which can come from traditional employment or self-employment activities.

For 2024, the maximum annual contribution to a Roth IRA for a child is $7,000 or the total of their earned income for the year, whichever is less. If a benefactor is willing, they can allow the child to keep part or all of their earned income and fund the Roth, as long as their contribution doesn't exceed their earned income.

To ensure compliance with IRS rules, it's essential to understand what constitutes earned income for a Roth IRA, which includes money obtained from employment or rendered services.

Wages and salaries:

• Paid internships are available through onsite internship offices on college campuses, allowing students to earn money while gaining valuable skills and connections for their future career goals.
• Earned income from part-time jobs, such as working at a grocery store, fast food restaurant, or retail shop, is considered valid income. For example, if a 16-year-old earns $4,000 working at a coffee shop over the summer, that amount qualifies as earned income.
• The most straightforward type of qualifying income for a child is income from formal employment, which is reported on a W-2 form and can include hourly wages, salaries, and tips.

Self-employment income:

• Earning money from babysitting jobs is considered self-employment income, which can be used for Roth IRA contributions. Similarly, income from lawn or yard work around the neighborhood can also be used for Roth IRA contributions.
• My son has been involved in tutoring other students, both in-person and online.
• Earned income: If your child sells homemade crafts or art at local fairs or online and earns income from these sales, it qualifies as earned income.
• Online platform jobs: Income earned by a minor through providing services such as graphic design, writing, or coding is considered earned income.
• Income from food delivery jobs, which are allowed by age restrictions, through services such as DoorDash or Uber Eats, can be considered as earnings.

Earned income does not include money received from parents for chores or as an allowance, cash gifts, or investment earnings, nor do scholarships and grants, which are non-taxable income and cannot be used for Roth IRA contributions.

Winnie Sun, co-founder and managing director of Irvine, California-based Sun Group Wealth Partners and a member of the CNBC Financial Advisor Council, discusses financial matters.