The
nature of Roth IRAs, coupled with the effects of long-term compounding, can
create exceptional returns on such early investments.
Although
contributions to Roth IRAs are not deductible, earnings within the accounts
(such as interest or dividends) are not taxed and qualified withdrawals are
completely tax-free. Tax-free compounding can result in sizable accumulation in
a Roth. For example, if a 15-year-old contributes $2,500 for each of four
years, and the account earns 5% annually, the fund will be worth about $85,000
when the child reaches age sixty.
It's generally best to leave IRA funds untouched until retirement,
but if necessary, your child's contributions
to a Roth IRA (excluding the earnings) can be withdrawn at any time without
triggering taxes or penalties. This flexibility provides an advantage over a
traditional IRA, where most withdrawals before the owner reaches age 59½ will
be taxed and penalized.
The
owner's ability to deduct contributions is the one advantage a
traditional IRA offers over a Roth IRA. However, this feature is relatively
insignificant for most young earners. The first $6,300 of a child's 2015 income will be entirely sheltered by the standard
deduction, and any earnings above $6,300 are likely to be taxed at very low
rates.
This
year, most working people can contribute up to the lesser of their earned
income or $5,500 to a Roth IRA. Although Roth eligibility is phased out for
individuals with income above certain ceilings (e.g., $116,000 to $131,000 for
a single person in 2015), a working child's
revenue rarely will approach such thresholds.
If
you'd like to learn more about the benefits of setting up Roth IRAs
for your children, contact us at (518) 798-3330 for assistance.
