By Dr. James M. Dahle, WCI Founder
A lot of blog readers asked me questions a few months ago in the “Windfall Post” where I made an off-hand comment about the “20s Fund” I'm saving up for my children. I thought this would be a good opportunity to talk a little bit about the inheritance I am saving up for my kids.
Now, I expect there will be quite a bit left when we're dead. I'll probably keel over in my 80s but I fully expect my wife to be a centenarian. So that means by the time she goes the kids will hopefully be retired and financially independent before they get any kind of final inheritance from us. Receiving money at ages 60-75 isn't going to do them any good, and I'd like to actually do them some good.
Avoiding Economic Outpatient Care
Stanley and Danko in the classic personal finance book that I hope you have all read, The Millionaire Next Door, spend an entire chapter describing how wealthy people ruin their children, both morally and financially, by giving them money as adults. I believe the data they compiled. So the key for me is to help my children without ruining them. I have spent a lot of time thinking about this, and this post demonstrates the plan so far.
My Children's Inheritance: The Five-Point Plan
Financially speaking, I plan for my children to get their “early inheritance” in five different ways.
#1 Give My Children Financial Knowledge
One of the very best ways I will help my children is to pass along financial knowledge. My 11-year-old has known that interest should be received, not paid, for years. She knows how a Roth IRA works. She tells her friends that she wants to either be a back surgeon or a financial advisor because she knows both of those careers make a lot of money. She groans when I turn on Dave Ramsey, but she's gotten the message. As we drive around town I point out to her all the businesses she owns—you know, McDonald's, Home Depot, Lowes, Disney, Chevron, etc.
Now I'm starting with her younger siblings. I opened bank accounts for them recently and they've had investing accounts for years. They know that there has to be money behind checks and credit cards. I have no doubt they will be very unique among their college peers with respect to their financial knowledge. And that is totally free to pass on to them.
#2 Contribute to Their 529 College Funds
Most well-to-do parents try to save something up for their children's educations. In fact, I have run into many of you that are planning to save up way more than I am for college. Part of that comes from the fact that my wife and I attended very inexpensive undergraduate and graduate schools. Part of it is the fact that I don't intend to pay for their entire educations. As I've written before, I expect them to contribute in a number of ways:
- Choose a reasonably priced school for their goals and abilities
- Earn merit scholarships
- Work during school and in the summers
They also will benefit from an education fund provided by their great grandparents. Like the money I am saving up for them, that fund won't completely cover their education, especially if they go to graduate or professional school. But combined with what I will have saved up, and what they contribute, my goal is to get them out of their undergraduate educations completely debt-free, and if desired, through their graduate/professional educations with a manageable amount of debt.
She's not very good at keeping her feet dry while backpacking, but she can rock a future value function.
The fund I am saving up for them is in the Utah 529 Plan, the UESP. It's a great plan, with low expenses, a state tax credit for residents like me, and both Vanguard and DFA funds. I invest the money in a very aggressive asset allocation—100% stock (50% international and 50% small value) for reasons I discussed here. Although I jump-started the infant's fund with $10K, I generally only contribute enough to get the maximum tax credit each year, about $4K per child. Obviously, that's not going to be $250K a piece when they hit college age, even starting early as we did.
#3 Invest in a UTMA/UGMA for Their “20s Fund”
In my opinion, the most useful time in life to receive an inheritance is in your 20s. That's when you have precious little earning power, zero net worth (at best), and tons of expenses. Everybody thinks of college, but there are also summers in Europe, missionary work, a first car, a down payment, a wedding, and a honeymoon. For the professional student, there might be nearly a decade spent without a significant income. So we have decided to save up some money for this important decade to help our children. Not only will this fund provide them some unique opportunities and help them not start out life heavily in debt, but it will allow them to make decisions from a different perspective than I had to.
For example, I was donating plasma in college in order to get by. When we were engaged and planning to get married just before my MSI year, I was sick of being poor and did not want to drag my wife through the existence I had been enduring for the previous several years. I'm sure that factored heavily into my decision to sign-up with the military for medical school.
Now, I like to think that wasn't my primary motivation. Certainly, I had some motivation to serve my country. I was definitely looking for an adventure (which I never really found to be honest in an environment where we weren't allowed to leave a base in rural Chile for “security reasons”). However, there's no doubt the idea of someone just handing me $920 a month throughout medical school AND covering tuition, books, and fees was very attractive given that I had been living on $5000 a year up until that time.
It would have been nice to have been a little bit more financially secure in my 20s. I think I would have made some decisions a little bit differently, and hopefully for the better. Granted, there is a fine line between Economic Outpatient Care and financial security, but I don't think our kids need to feel quite the pinch I felt in order to be financially successful.
Only 8 and a millionaire in training
This money is invested in a UTMA/UGMA account. Also 100% in stocks. I've only started it for the eldest but hopefully will get the others started in the next year or so. How much money will be in this account? At least $10K and certainly less than $50K. That won't cover a ton, but it will cover some things. UTMA/UGMA accounts, unlike 529s, become theirs as soon as they turn 18 (21 in some states). So if they decide to blow it all on heroin, there won't be anything I can do about it.
#4 “Daddy Match” Roth IRA Retirement Fund
Every dollar my kids earn as children and teenagers goes into a Roth IRA thanks to the “daddy match”. What's a daddy match? That means the money (babysitting, mowing lawns, teen summer jobs, etc.) they earn goes into the Roth IRA and I give them an amount equal to it to spend on whatever they like. That does mean we've got to deal with the hassle of their tax returns, but it's totally worth it (and kids can earn a ton without paying much tax at all). Besides, it gives them a chance to learn all about the tax code.
In fact, all of my children are employed by this website. You see those photos of them all over the site? You think they're giving me their time and images for free? Heck no. The going rate for child models is $100 an hour. That's $100 I don't pay taxes on, $100 they don't pay taxes on, and $100 that can go into a Roth IRA and compound for the next 6-8 decades (double that if properly stretched).
I just see a Roth IRA as too good of a deal to pass up. I don't know how much money we will get into their Roth IRAs before they hit age 18, but even if it is only $10K, if it grows at 5% real for 50 years it will be worth $114K. And the lessons of investing from the very beginning are worth even more.
#5 Encourage Them to Own a Business
Now, this one I can't say I've actually started for any of them yet. But imagine with me if you will a child whose college fund doesn't consist of a fund invested in stocks, bonds, or CDs. Instead, it is a business.
Imagine graduating from high school with a business that pays you $5K, $10K, perhaps even $50K a year of passive income. Maybe it is a rental property. Maybe it is a website. I don't know. But what better way to “teach a person to fish” than to have a kid learn how to run a business in middle and high school?
There is no reason someone can't be a high-income professional (or an artist, or a teacher, or whatever) AND an entrepreneur on the side. I hope to plant those entrepreneurial seeds early in my children. Stay tuned for further details on this one.
Well, that's my plan. It's still a little rough around the edges, and it is likely to see some significant changes in the future. But better to have any plan than no plan at all.
[Editor's Update: It's been a few years since this post was originally written so here's an update. We're doing great with # 1. As near as I can tell, my kids are among the most financially literate of their peers. We're also way ahead on # 2. As our income increased, we are also increasing how much we're saving for school for the kids. It still won't be $250K, but given the average cost of the universities in Utah, $250K could cover both tuition and living expense for undergrad and med school. # 3 is also a check. These are funded but we still add money there occasionally. # 4 The Roth IRAs continue to grow with every dollar they make from WCI and any other paid work they do. # 5 No luck here yet, other than some lemonade stands, but the eldest did manage to hold down a job this summer, so there were lots of lessons to learn from that. ]
What do you think? Do you plan to give your kids an “early inheritance?” How and why? If not, why not? What are you doing? Comment below!
When my kids were in high school, they worked summers as lifeguards instead of for us at the office. They didn’t make as much, but they were not dependent on us for spending money. They put 15% plus a generous mommy match into a Roth IRA. So, they only had 85% minus taxes left for themselves. They made their own decisions with their spending. When my daughter ran out of her money in her senior year of college, she got a job on campus. Teaching them that running to us for money is not the answer to their finances is important. It is hard to watch them make mistakes, but imperative for them to learn finance. Better they learn it with smaller amounts of money than we did. As with all parenting, just be careful you don’t make it too easy for them. Their struggle is where they find their strength.
There is some usefulness to struggle. My son brought his wallet to the store with me the other day. He wanted to buy a $19 toy but only had $13. Lots of tears and lessons learned since dad wasn’t giving him a loan.
Brings back memories of the look on my son’s face when he found out about sales tax!
My plan and philosophy are similar to, but also different from, the WCI.
I plan to pay for the entirety of my two children’s education, as my father did for me. I have a 529 and a UMTA account (roughly $160k and $100k in each, respectively, for each child) and continue to contribute to both. Ideally, I will use some cash flow for collage, as well. I would like to leave each child with $50k or so in the UMTA account for a “starting out in life fund”.
My son, 17, contributes most of his salary (lifeguard, swim instructor, and camp counselor) to his Roth IRA, and I make up the difference to the max. My daughter, 14, has had a couple paid singing gigs, and the money has been split between her UMTA account and her Roth IRA (in retrospect, perhaps I should have put it all in the Roth, especially the $2600 for her biggest gig).
They also both get a weekly allowance, automatically deposited to their debit cards, and I pay all of the expenses for my son’s car (including gas). I could make them struggle more, but our strategy has worked very well with my son, who is internally motivated to work hard and not squander his money. My daughter, well, she is a work in progress. 😉
My kids will get our $$$ someday so why not invest it for them at an early age. For sure set up a Roth IRA for each child with their chore money as it guarantees a million or two at retirement. I see nothing wrong with paying for a child’s education; especially with the outrageous rates sallie mae and others charge them. What is prudent in estate planning are trusts in case of the dreaded DIVORCE!
Be careful with “chore money.” This needs to be legitimate earned money, not being paid to do something you should be doing anyway like your own laundry or cleaning your room. To be safe, if the money comes from me it is legitimate, documented business income. Otherwise, it comes from someone else (like babysitting money.)
So $100 an hour for calling a kid a “child model” (so Dad can take photos that his blog does not really need) is “legitimate, documented business income”? C’mon — it’s a gift pure and simple. By that rationale, I should have been paying my then-little girl $25 or so an hour when she swept the floor of my small business, helped me in the garden, etc. Donald Trump would be happy to avoid taxes like that.
He’s got you there WCI, I’m no accountant but the child model angle seems to push it for a financial blog as much as “chore money”.
It’s not like WCI invented the child model thing. It’s something apparently a lot of people do. Furthermore, if done properly, it’s actually legitimate. I’ve heard from more than one accountant that it is fine.
I think the only thing the IRS could question is the time spent by the model in the taking of photos.
There’s all sorts of things that the tax code permits that seem silly (backdoor roth is the first thing that comes to mind). This is one of them.
And yes, you could have paid your daughter to clean your office. Don’t know about the garden (unless it was part of the office).
Chore $ from parents is considered either a gift or an allowance, but it is not earned income.
I love the millionaire next door reference. I just finished “reading” that a week ago. My library lets you take out audiobooks, so I listen to it whenever I walk around doing things. Are there any other classics people recommend (wci book and wealth of common sense aside)… Also any podcasts besides planet money or freakenomics? P.S. Please forgive the tangent, but I saw tmnd ref and beelined for the comments section
Read Malkiel, Bogle, and Swedroe-will give you the info for life
https://www.whitecoatinvestor.com/best-financial-books-for-doctors/
Ahh very cool… Thanks guys
Don’t sell yourself short. As one of my favorite podcasters says, the deaf don’t “feel” books in Braille, so heck, just because you’re using a different sense doesn’t mean you can’t call it “reading”. 😉
What podcast is that?
Quackcast
….especially since the deaf can read (with their eyes)… That’s like how many of each kind of animal did Moses take on the ark… None!
I picked up the Millionaire Next Door this year and read it again.
I didn’t remember the part about kids.
See I am always complaining about my dad. He is financially independent at this point in his life. But it was not always that way for him. He was a high earner but raised five kids.
And like me, he knows what it is like to make a lot of money and always feeling like you are living week to week. He knows what it is like to have a bunch of kids and their expenses, an office loan, real estate loan for the office, home mortgage among other things.
Yet he goes out to breakfast with us and wont even pick up the tab.
But the book says its this struggle that makes us who we are.
If he bails me out of some of this, he robs me of getting stronger.
I mean what would I do with the money if I didn’t have an office loan.
Would I invest it?
Or would instead of a driving to the mountains and walking on free trails, would we fly across country and go snow skiing.
Do I want it to be easier? Hell yes.
But we all have this, “I want it NOW” mentality. Or “If I just had X, I would be happier” attitude.
My loan will be up next summer but does that mean it is going to be easier?
I mean, how much do I need from my dad?
If he gave me $50,000 would that be enough? Do you want to get it every year?
How much can he give me to make my happy? How much can he give me to make it easier?
Because I can blow throw $50k fast. I could pay my mortgage faster. I can pay off my office loan. Kids high school tuition bill is due next month. College is coming up in a year.
Come to think of it, my car is 15 years old.
And so on and so on.
So my dad pays for the kids tuition and next thing you know I get a new car.
Now he is judging me and second guessing the gift.
“Why would I give him some cash to help with tuition if he is just going to go out and get a new car”.
It is definitely a slippery slope.
I agree with the Millionaire Next Door mentality. And that is coming from the givee not the giver.
I think I am stronger because of it.
I think I teach my kids different because of it.
I hate the struggle but I think I am better because of it.
Very well said. Thank you!
I definitely agree with you that my life turned out the way it did because I had to have my struggle and make do with what I had. I am definitely better for it, and although I want my kids to have it easier than me, I also don’t want to make it too easy either. This is a very tough line to tread.
One of the things I fpund really interesting in tmnd was that if you do give a gift to your kids you could end up hurting them. If you give them an expensive rug they may feel pressure to buy new furniture since their existing ikea furniture was out of place, if you pay for grand kids private education then they may feel pressured into buying a bigger car to help car pool or donate to the school, if you buy them a house in an affluent neighborhood then they might feel pressured to keep up with the jones’s.
So, do you have to file a self-employed tax return for each of the kiddos every year?
I believe WCI has addressed this in another post, but there are no SE taxes for kids under age 18 who work for their parents’ unincorporated business and no FUTA (federal self-employment taxes) if under age 21.
https://www.irs.gov/businesses/small-businesses-self-employed/family-help
He will have to file tax returns for them but they will not owe federal income taxes for wages of no more than their exemption amount ($6,300 in 2016) so they can fill out a Roth IRA without owing any taxes except the Utah flat rate of 5% (which reduces the parents’ state taxes, so that is a wash). In exchange, the parents get to deduct the kiddie wages from their much higher taxable income/tax bracket.
Thanks for the reference!
If they have self-employed income, then yes, it goes on Schedule C, a “self-employed tax return.”
Actually, my first answer s/h/said “FICA” rather than “SE”. If the child gets a W2 from the parent, you would file only a 1040EZ. I’ve actually filed a schedule C along with an explanation that the 1099 was from the parent and the IRS d/n bill for SE taxes, but I would recommend the W2 route.
I wonder how much of our approach is the result of how we were raised. I feel pretty strongly that I should cover the entire cost of my child’s undergraduate, and most of his graduate work, because my parents did that for me, and as a result, I’m in the position to do that for him. I did not work any less hard than any of my classmates because I didn’t have “skin in the game” (from my perspective, I studied harder, but that would be hard to confirm). I’m trying to max out his 529 each year up to the gift tax limit, and I’m not making a huge income or already financially independent, but it is doable and it feels like the right thing to do. Pay it forward, if you will.
I am in the same boat (ie. my parents paid for me), and I feel the same way.
My older two recently graduated from college. We drew clear lines about what we would cover expense wise and why. We covered tuition, room, and board. We gave them a monthly amount to cover residual living expenses. They had scholarships that allowed much of their 529 funds to be saved for later. Any extras they wanted above that came from their summer jobs or part-time work. My son always managed to save some each month. My daughter always went over, had to dip into her own money, and when it was gone, work part time. It helped her learn better money management now that she is working full-time.
My plan for funding my children’s Roth IRA was for every dollar they earn, they put in 0.50 cents and I match their 0.50 cents. I believe, that way, the kids also learn about delayed gratification and they have more skin in the game, as opposed to them keeping whatever they earn and me putting all of my money into their Roth IRA. Would hope this strikes a balance with Economic Outpatient Care and financial responsibility
how early can you start a Roth IRA for a kid? What age do most of you do it for your kids?
They have to be old enough to earn money. Of course, in the case of child models, that is when they are babies. But for most kids, they need to be old enough to be able to do something useful like mowing yards or cleaning your office. There is no age limit for contributing, just have to have earned income.
Exactly. No age limit. It’s whenever they get earned income. Babysitting, lawn mowing, lemonade stand, modeling…whatever.
An excellent plan, and not an inexpensive one, considering the 4 kids!
I will be giving my 2 boys a financial education, and will help them fund Roth IRAs when they are able to legitimately earn money.
I like the idea of a supersized 529, even though I fully expect they will receive merit scholarships and I will do my best to ensure they give strong consideration to public universities. Both my wife and I were recipients of full tuition scholarships to our respective flagship state universities.
My hope is that there will be 529 money left over to be used in graduate / professional school, and possibly more left over to be allowed to grow another 25 years, give or take a few, to be used by their children. A multi-generational 529 account could compound and double several times over that kind of time frame.
If they don’t have kids that go to college, or education is completely different by then, maybe I’ll just go to culinary school in Italy.
If one thinks there is a possibility of passing on extra 529s to grandkids, would one have to retitle the ownership of account to the children so it can be used for grandchildren or not necessary? I only ask because one of my current 529s doesn’t allow change of ownership.
I plan to make a new account with me as the owner, the grandchild as the beneficiary, and then roll over unused funds into it. Could that work for you?
Not necessary, but a good idea to read up on generation skipping tax.
That was the gist of my question, to do this to avoid any generation skipping tax. I’ll go read up, but I bet I could roll over to a plan like UT that allows change of ownership and avoid such tax, correct?
My parents were poor immigrants and could not afford to help with any of our college fees. Even when we were in HS, we never went on vacations / summer camps / etc. This actually made my sister and I MORE determined to do well in school as we knew this was probably the best way to succeed financially for us in the future. We are now both earning well above the highest tax bracket by ourselves.
I have 529s for my kids but I am unsure if I will pay for a full ride. We live comfortably but not extravagantly. I make it a point to teach my kids to be grateful for everything they have.
I spent a tremendous amount of timing thinking about where our money goes and how to ensure that only has positive effects on our girls.
As others have said, I like your plan a lot.
Personally, my apprehension with this plan would with the 20s fund. I remember what I spent my money on between 18 and 25. I didn’t have any value to show for it a decade later and, looking back, I realize having access to more money could have turned bad decisions into catastrophically bad decisions! I am confident your kids will turn out to be much better people at 18 than I was, so I doubt you have anything to worry about on that front.
That said, aside from being concerned that they’d get themselves into trouble with a lump sum of cash in their laps, I’d be concerned that even if they didn’t get into trouble that I’d resent what they did with it. Using it for things like a trip to Europe, a down payment on a house or paying for a wedding sounds great… how would I feel if they used to to bail out that loser boyfriend/girlfriend? Or bought PowerBall tickets with it? I know, this goes back to point #1 (which I’m a huge, huge believer in), I just also know I lost my mind there for a few years and I don’t think that’s all that unusual.
Lastly, as others have said, that struggle to save for the wedding or sleeping on the train as you backpack through Europe because you can’t afford hotels, eating ramen in college… these are experiences that show us all what we are made of. I would hate to wonder if they money I gave out of love deprived took something away from the person my child could have been.
MCD
Hmmm….my daughter sleeping on the train in Europe reminds me of something:
https://www.youtube.com/watch?v=KgmO32IdwuE
Maybe I’ll nix the 20s fund. 🙂
The ultimate hero-dad to quote my niece.
Overall, the WCI is doing a good job of helping his kids for their future and also educating them to handle money properly. Different families have different needs and means, so here is what I did, on a more modest salary. My ex-wife and I agreed that we would make it possible for my daughter to attend any college of her choice. She passed up a generous scholarship to a a college that was not a good fit, and eschewed a good state institution. She wound up at a pricey college that had a maximum class size of 15 students, and got what I think was a genuinely superior education. She did work summers and occasionally part-time during the year to have extra spending money. I felt strongly about applying for financial aid, because I have seen too many students of limited means who work their tails off to get an education. They need the money a lot worse than my kid did. In her 20s, she was self-supporting in a modest-paying occupation, but the demand for her skills diminished a few years later and work was hard to get where she was. Eventually, she decided to move from one coast to the other, and I financially assisted her job-hunting trip and later move. Not cheap, but it worked out. I see this as the equivalent of the WCI’s 20s fund, but I waited until she really needed it in her 30s. I told her it was coming out of her inheritance. I also financed a Roth for her for a few years, until her income was such that she is no longer eligible. I also have been systematically educating her about investing, because she will doing her own eventually. Now she is starting her own business, and occasionally calls me for advice. May be pure luck, but I think she is pretty well qualified to handle her own financial affairs.
Here’s my professional opinion as someone who sees the details of lots of people’s finances.
I *like* it.
aren’t you all in low cost mutual funds?
but you seem to invest money for your children in individual stocks? ….McDonalds, Home Depot, Lowes, Disney, Chevron….?
Low cost mutual funds own McDonalds, Home Depot etc
My children own low cost mutual funds.
Therefore my children own McDonalds, Home Depot etc.
My family has always taken steps to bolster the education and general marketability of each successive generation. I think multi-generational wealth has to start with education.
My great-grandfather was a college professor, he put all of his children through college and bought each one of his boys a suit when they left high school. My Grandfather helped my mother through pharmacy school by keeping her employed at his business. He bought me a suit when I left from high school. My parents paid for my undergraduate and let me live at their house for 2 years of medical school. My grandmother gave me her car when she was done with it. I’m certain my net worth and financial flexibility would be significantly less right now if I hadn’t been given this support.
I did however take out money for med school as I knew it would be a significant financial burden on my parents when they offered to help. If they had been flush with cash I may have taken the offer, but I didn’t want them working extra in their 50s to give me any more than they already had. (They are set up for a comfortable retirement now.)
So now it is my turn to prepare for my daughter’s education. I don’t think the level of assistance I received ruined me in any way and I think I can do just as much for my daughter as my parents did for me.
Just to clarify, since I don’t know much about UGMA/UTMA funds:
Annual 529 contributions are generally limited by the gift tax, currently $14,000. I would assume any UGMA/UTMA contributions would also fall under that annual cap? So the total contributions of 529 + UGMA/UTMA will have to be <$14k?
More or less. It’s $28K for a married couple plus you can front-load up to 5 years of 529 contributions.
Just clarifying and updating the numbers here.
If you and your spouse have a lot of cash and want to fully fund a 529 for children you could add $150 into each.
$15K from you. $15K from your spouse per year. That is $30K for one year. Or $150K for five.
Yes, except you can “superfund” your 529 with 5 years of gifts in a single year. You would need to file gift tax returns for each year and you would not be able to make any additional “nonreportable” gifts (such as to UGMAs or UTMAs) during that time.
Just to clarify, the gift tax is not $14k, but the annual limit on gifts you can make without eating up part of your lifetime “unified estate and gift tax credit”. Iow, if you give more than $14k in one year, your lifetime exclusion for amounts that you can give away tax-free (currently $5.45M) is reduced, but you do not owe any tax at that point. The purpose of filing the gift tax return is to track reductions throughout your life.
Tough questions to answer. We paid for our two kids college education. Our daughter is starting med school in 6 weeks. Due to our high income she isn’t eligible for government loans. We are going to loan her the $300K its going to cost. We won’t charge interest until 6 months post med school, then we will charge a minimal amount of interest on the total. This was what my parents did for me through my similar education and I always thought it was fair. I want my kids to understand the value of money and feel the urgency of debt to help them navigate their futures responsibly. It worked for me!
I am confused by your statement that she is not eligible for government loans. As a med student she is considered independent. You may be able to offer better terms, but she should still qualify for government loans. My son starts in August. He applied with the FAFSA and got 55K of governmental loans offered for M1 despite our income. We did not have to fill out a FAFSA. He declined the loans as he has his 529 money left from undergrad. I do like your idea though when he runs out in M3 or M4, if he lets us.
Dr. Mom,
You are absolutely correct, I mispoke. I meant to say she was not eligible for financial aid. She could have received gov loans but they were charging $1800 per year in fees and were acruing interest at the start of the loan. We plan to charge her 4% interest beginning 6 months after she graduates.
WCI: Are we risking running afoul of the law by this course?
Thanks, Keith
You are not running afoul of the law. In fact, you are charging above-market rates according to the IRS AFRs https://apps.irs.gov/app/picklist/list/federalRates.html. If you make it a term loan, rather than a demand loan, you can use the AFR in effect in the month you make the loan. Because the loan is from a related party, the loan will not be a “qualified loan” and your daughter cannot deduct the interest. However, you will owe tax on the interest income.
Be sure the loan is handled properly (documented!) so the IRS will not be tempted to construe it as a gift, which would eat into your unified estate & gift tax credit. There are some cheap software programs which will handle this all for you.
Can’t improve on that answer.
Thanks!
Remember there are tax consequences to below market interest rate loans to family members.
The knowledge that you share while you raise them is worth way more than any money they’ll ever receive.
However, the 20’s fund is such a fantastic idea! As long as kids know how to work hard and be responsible with money, there’s no reason they should suffer the chains of student loan debt if it isn’t necessary.
I think our 20s fund for our children will look a little bit different. While I believe the absence of parental help certainly helped me get me to where I am today I am also quick to recognized that I only managed it because risk did not show up. My 20s saw me under insured, working unnecessarily dangerous jobs, and shorting myself of proper medical and dental care (some of which has had longterm ramifications). I was also too cash poor to be able to max out tax advantaged accounts. Now, while I want my kids to “earn it themselves” I am of the mindset to provide their insurance because risk does sometimes show up. So my 20s fund might more look like.
paying all their medical and dental deductibles and insurance (possibly other insurance needs as required)
matching any contributions to retirement plans
allowing them to live at home if so desired
subsidizing market losses if there happens to be a bad sequence of returns during their 20s
Sounds like a solid plan…one question…if they live at home, do you charge them rent, if so how much? What do you do with the earned rental money?
In my view, the purpose of charging them rent is to get them to move out. So perhaps $100 a month to start and raise the rent $100 a month. By six months, it’s $600 a month. By twelve months, it’s $1200 a month. By two years, it’s the equivalent of a mortgage on a very nice house. They’ll figure it out eventually.
I find it hard to believe my child could progress financially as well as he should while living under my roof in his 20s. I mean, what is he paying for when you’re covering room, board, retirement contributions, and insurance? Why not just sit in the basement and play video games?
Maybe if they’re actually enrolled and attending a local university full-time I’d be okay with it.
That certainly is a different plan. I start telling my kids they’re leaving at 18 at about age 3.
Not sure why you feel a need to subsidize market losses in their 20s. A 25 year old should get down on his knees and pray for a bear market.
A kid getting a windfall of 10-50K could sit around for a few years playing video games too. But, then again, maybe my kid will have a mate to do heroin with now.
As far as allowing the kids to live at home. In my spouse’s culture multi-generational living is fairly common. Finding alternative methods of multi-generational wealth transfer (that you’ve referred to in previous posts) isn’t uncommon either. And since I no longer live in the USA many of the societal notions of limiting a child’s independence by living at home disappear as well. However, whatever the circumstances, living at home won’t be a free ride of room AND board. They will certainly have to work as we’d only be providing a matching contribution for whatever they put in a retirement account.
As far as subsidizing market losses consider it a way of multi-generational wealth transfer. Also, while US markets have historically recovered well this isn’t true for all markets across the globe. And our subsidies might look more like 0% real up until they are 30. Which essentially might be similar to giving them their 20s fund when they are 30 but we’d only be on the hook for it if risk showed up.
But our kids have a while to go. My thoughts are still a work in progress.
“A 25 year old should get down on his knees and pray for a bear market.”
Only if they are earning enough to invest after paying all expenses including debt service, and the bear market doesn’t result in the disappearance of the job.
I would argue that means that most 25 year olds should not in fact be praying for a bear market.
Our oldest two (who are in their 20’s now) received our version of their 20’s fund when they graduated from college. It was their UGMA account that had grown to almost 20K from money they invested themselves from birth, bdays, Xmas, graduations, Bar Mitzvah, allowance, etc. They knew all along that it would be there at college graduation. I always viewed it as their money. We used it to talk to them about finance, investing, compound interest, etc. I would have found a way to drain the account prior to age 21 if I thought it would hurt them to access it.
I received a surprisingly generous cash gift from my parents as a wedding gift and my wife received a similar gift from her parents right before we bought our first home that we put towards the down payment. That was a life stage where the money was greatly appreciated. Totally agree that it’s better to gift some money when it’s needed most, than as inheritance when kids are 55+.
Our kids have heard us say that our greatest gift to them is for us to be financially independent in our old age, so we won’t be a burden on them!
That aside, generally agree with everything in this post – although I’ll have to think on the prospect of a 20’s fund. A debt-free college degree and a healthy Roth IRA “daddy match” fund means they’ll be way ahead of most peers (sure wish someone had started me with retirement money in my teens!). We’ve got 529’s for each (funded only to the state maximum to get tax benefit, $2K in Ohio) – which with their merit scholarships and some employment has more than covered in-state public tuition that we said we’d provide (oldest also just got an RA position, which means room and board covered!) – we may actually have a 529 “problem” if they don’t want professional school, although I may buy back leftover 529 funds (at less that 100%?), and they can have the cash at graduation, if I can redirect it to our youngest in case she doesn’t do as well in the scholarship game. Alternatively, Dr. Mom’s thoughts about creatively passing down to grandchildren is something else I’d like to research (thanks for that!).
Bottom line is it is crucial to individualize what might be best for each child – we used to struggle with our oldest’s seemingly bottomless appetite for free money; putting her on a fixed allowance starting in high school turned her into a frugal shopper with a sharp eye for clothes bargains! She works for extra spending money, and we know we’ve done the right thing when she just turned down a $4000 summer scholarship to instead work in Spain and get an overseas experience that way!
To maximally fund a 529 without diminishing the estate tax limits per couple, can a couple gift $28K to a 529 plan in year 1, and then superfund the account in year 2 ($140K) for a total of $168K over 2 years? Does the 5 year period include a look back to the previous year?
My understanding is it only looks ahead. So no contributing in years 3-7.
Yes, you can do that. The 5 year period begins with the year you first make the jumbo contribution.
I really appreciate your blog. I’m not a doctor. I’m an engineer. My dad was an investor. I thought I learned from him. I must have. But my retirement thinking was mostly “out there somewhere.” I’ve made some really dumb moves, which hurt. Recovery was slow. Suddenly, here I am at 72. Retirement jumped out in front of me. I finally admitted I’m retired!
I’ve been reading everything in sight. I’ve also done some RIGHT things: unlimited Long Term Care, umbrella policy, IRA, SEP, pensions, SS spousal benefit, Trust, a whole life policy that I have borrowed from hugely for emergencies, and we are totally debt free. No Roth! I missed the memo on that. This is really complicated stuff.
Yesterday we sat with our advisor and I realized that we were going to be okay. He’s showing us how to get it all to play well together.
Thank for your insights. I bumped into your blog last night. You got me thinking about my kids. (in their 40’s) My 20’s plan for them was to raid the cookie jars. They always paid me back. They now have their own cookie jars. It’s time to teach them what I have learned.
At 2 AM, I finally realized it was time to put myself to bed. I slept well.
I’ll be back!
Thanks again.
Welcome to the blog and I hope you find some stuff that is useful for you and your kids.