Children’s Savings Accounts Explained

There are many options available for children’s savings.  Within those options are the multitude of institutions that can provide those services.  Many institutions offer several types of savings accounts, so you can move between them.  We’ve categorized the types of savings into four:  (1)Treasury Bonds (2) traditional savings account (3) custodial account and (4) educational accounts.

Treasury Bonds has been the traditional American way of saving for a child.  They are a reliable, low-risk, government-backed product that should be used for long-term investment.  Bonds earns a fixed interest rate for up tot 30 years.  You can cash them in after one year. But if you cash them in before five years, you lose the last three months’ interest.  However,  after January 1, 2012, paper bonds were no longer available.  All bonds can only be purchased online through TreasuryDirect.gov.  There are two types of bonds that can typically be purchased, the EE and I series.  You can purchase in any amounts of $25 or more, up to $10,000 per calendar year.  Interest earned is taxable for federal, but not state.  However, the tax can be avoided if the money is used for higher educational.  Bonds are in the owner’s name.  So, if you buy a bond for a child, it will be in the child’s name and will be taxed at the child’s rate.  You can report the interest earned each year, or defer reporting until the bond is redeemed, which is the most common selection.

IMG_2281Traditional Savings accounts earn interest.  A few banks will allow parents to open an account under the minor’s name with the parent as joint owner for minors of any age.  Some others have an age restrictions.  Parents and children have full access to the money and can be withdrawn anytime.  There are no restrictions on the usage.  Interest between $950 and $1,900 is taxed annually at the child’s rate, and above is taxed at parent’s higher rate.

Custodial accounts, or trusts, are the Uniform Transfers to Minors Act (UTMA) and the Uniform Gifts to Minors Act (UGMA).  Both allow securities to be held in the custodian’s name for the benefit of a minor.  After the child reaches the age of maturity (18 or 21 depending on the state), the assets becomes the property of the child and the child can use them for any purpose. As such, this is an irrevocable plan.   Interest between $950 and $1,900 is taxed annually at the child’s rate, and above is taxed at parent’s higher rate.  Most states have UTMA, which allows for any kind of assets, including real estate, to be transferred to the minor.  The remaining few states still have UGMA, which limits the transfers to bank deposits, securities and insurance policies.

Educational accounts include the 529 and Coverdell Education Savings accounts. The 529 plans are tax advantaged college that allows you to set aside money for future education expenses, and the cap for contributions are set very high (over $300,000 in some states).  Contributions are not deductible from federal income tax liability, but many states provide state income tax deductions for all or part of the contributions of the donor.  While most plans allow investors from out of state, you can’t get the state income tax deduction unless you are investing in the plan of your state of residence.

There are two types of 529 plans, prepaid plans and savings plans.  Prepaid Tuition plans allow one to purchase tuition credits at today’s rates to be used in the future. Currently only a few states provide a prepaid tuition plan, and only a few offer a Guaranteed Plan (Florida, Maryland, Massachusetts, Mississippi, Virginia and Washington), while other states (Illinois, Michigan, Nevada, Pennsylvania and Texas) do not guarantee them, meaning that the terms of the agreement can be changed or terminated at anytime, as some states are currently considering.  Prepaid plans only apply to public colleges.  The College Savings plan holds investments in mutual funds.  A benefit of the 529 plan is that the principal grows tax-deferred and distributions for the beneficiary’s college costs are exempt from tax as long as the withdrawals are used for higher education.

The Education Savings Account (also known as Coverdell ESA) is used to put away funds for qualified education expenses of the beneficiary. Contributions are made on an after-tax basis, and earnings generated may not be subject to taxes if expenses are used for education.  You can use the funds for expenses for grades kindergarten through 12 as well as college. The maximum contribution limit is $2,000 per child per year.  

Everyone needs a 12th Man

As the 2014 Superbowl (XLVIII) season came to an end, I wondered how the Seattle Seahawks achieved such amazing feats this year.  They had an incredible season, but what was the driving force that led the Hawks to make history by finally winning the SuperBowl?  There was one prevailing element throughout the season…the devoted and loyal fans…the 12th man.

Shared image of Seattle Seahawks Superbowl Win

Shared image of Seattle Seahawks Superbowl Win

Being the only major football league in the Pacific Northwest, the Hawks have a large fan base. The creation of the 12th man (the fan) was a brilliant demonstration of what the Hawks are about…their fans.

I watched the reaction of Hawk fans this season.  There was overwhelming support from across the globe.  If there were Hawk fans anywhere, they supported their team.  You cannot walk in the Seattle area without seeing the green and blue shine everywhere.  Seahawk T-shirts, shoes, and other forms of support appeared in every corner.  Even churches expressed their belief with encouraging signs, such as “God shows no favoritsm!  We do. Go Hawks!”  The Hawks received a big send-off from Seattle for the Superbowl.

The fans were protective and defensive of their Hawks.  They did not let any 49er fans near their territory in the NFC championship game that put the Hawks in the Superbowl playoff.  After the Superbowl, the expression of gratitude and love from the 12th man were beyond compare.  Some cried as they enjoyed the first win in their lives with loved ones, many expressed their gratitude online, and the largest high-five was displayed by fans in Seattle after the victory.

The Seahawk’s Superbowl win demonstrates the power of support.  The Hawks played for the 12th man.  This was evident in their game against the 49ers.  They turned the game around in the second half for their fans. The game against the Broncos was for their fans.  They did not want to let the 12th man down.  The amazing support that the Seahawks received cannot be denied as being a major contributor to their remarkable season.

This support system is so vital in our every day life.  Having the encouragement of our family and friends can push us closer to greatness.  Having the support of our mentor and mangers that believe in us and support our ideas can impel us to accomplish the things that may seem impossible at times.

Everyone needs a fan.  Push and support the children around you. Encourage those possessing a potential to accomplish amazing achievements.  Encourage them because that encouragement can change lives.  And best of all, encouragement doesn’t cost anything.

The Power of monthly contributions and compounding

Most banks calculate accrued interest daily and credit monthly.  This means that banks take the daily balances and accrue interest on each day. The total interest calculated for the days are totaled to get your monthly interest that is deposited to your account.  This method is typically used because your balance is different each day.  If interest were to be calculated on the balance at the end of each month, the calculation wouldn’t be accurate because the balance at the end of the month is not representative of the balance in the account for the entire month.  You may have deposits and withdraws during the month, causing fluctuations in the balance throughout the month.

For simplicity, we illustrate the below table with monthly compounding at .75% annual percentage yield (APY).  Interest bearing accounts are usually quoted in APY, which is slighter higher than the annual percentage rate (APR), because APY takes into account the compounding of interest.  The calculated interest is added to the balance on which interest is calculated. Basically, you are earning interest on the interest.

As you can see below, an investment of $100 for 18 years will not amount to much.  But, if you make monthly contributions of $100 per month for 18 years, you will have a nice balance.

Year One-Time Contribution $100 monthly Contributions
1 $100.00 $1,305.64
2 $101.51 $2,520.35
3 $102.27 $3,744.20
4 $103.04 $4,977.27
5 $103.82 $6,219.61
6 $104.60 $7,471.31
7 $105.39 $8,732.42
8 $106.18 $10,003.03
9 $106.98 $11,283.19
10 $107.79 $12,573.00
11 $108.60 $13,872.50
12 $109.41 $15,181.79
13 $110.24 $16,500.93
14 $111.07 $17,830.00
15 $111.90 $19,169.08
16 $112.75 $20,518.23
17 $113.59 $21,877.53
18 $114.45 $23,247.06
18 years of savings at .75 APY, assumes monthly compounding.

Most companies offer direct deposit options in which your specified amount would be deposited to your designated bank account(s) each paycheck.  If your employer offers direct deposit options, you should take advantage of this, even if you are only able to contribute a little each paycheck.  With this feature, you can forget about that money, and you will be pleasantly surprised to see how much your balance becomes in a few months and in a few years!


President Obama’s Plans to Make College Affordable

President Obama’s recent plan to make college more affordable for the middle class has some worth but needs more thought. The plan’s goals are to:

(1) Promote innovations that cut costs and improve quality
(2) Help student manage loan debt
(3) Reward colleges and students for performance

Promoting innovation is a necessity. Colleges need to be challenged to utilize technology to be more efficient, such as redesigning courses to award credit based on learning instead of seat time. Most colleges easily have students spend five years before graduating with a degree. Some seem to have non-essential requirements, again requiring students to prolong their attendance.

The plan to help students manage debt requires proper management. The plan will allow student loan borrowers to cap payments at 10% of their monthly income and educate struggling borrowers about their options for student loan repayment. Some graduates seem to prolong their loan payments as long as possible even if they are able to pay it off sooner. Although many believe that student loans can’t be discharged in bankruptcy, that may not entirely true, per an article in the Huffington Post.

shutterstock_141582367Rewarding colleges based on performance appears to have some flaws. The plan intends to hold students accountable to making progress toward a degree and tie student loans to university outcomes based on ratings and hold students. There are students that make a career out of going to school and that should be done at their own expense, not on the public’s bill. However, rating universities based on educational outcomes, such as higher graduation rates and high return on investments, whereby students attending these higher rated schools would get more government loans and grants and pay lower interest rates needs to be reassessed.

(1) The college with the highest graduation rates and return on investments are generally elite, expensive private schools.
(2) Students who are able to attend this top rated schools don’t need aid, even if they are minorities. They are part of an upper middle class that already have the ability to make a lot of money and thus, are accepted by these schools.
(3) Technical and trade schools provide much needed vocations. If we only help those that go to a highly rated university to be professionals earning over six figures income, who will fix our cars when it breaks down or build our homes?

Those that are in low-income levels and can’t get into top rated schools are still not being helped with this plan. The plan appears to punish students that need aid the most.

Teach children to budget with allowance

In our family, the kids start contributing to the family chores when they were four and five.  These simple tasks included putting away their laundry, making their bed, and cleaning up after dinner.  They didn’t get paid for these chores because it was their contribution to the family.  A year later, they became money earners in the family with chores that were worthy of payment.  They folded the family’s laundry, swept the kitchen, and took the garbage out.  These weekly allowances for chores were paid for weeks when they completed their work.

IMG_2303Most of us would agree that if the kids earned their money, so they should be able to do whatever they want with their allowance.  However, there are the minority, that believe children should save their money. A balance between the two is optimal.

If you are providing an allowance to your children, you have a great opportunity to teach them the valuable lesson of budgeting.  It is a skill that will benefit them financially when they are adults.  Budgeting is difficult for adults, so it’s not easy for kids.  But, their budgets are much simpler than ours.

Children should be taught that a portion of their allowance is for savings, and the other portion can be spent on what they want.  If what they have left after the allocation to savings isn’t enough for what they want, then, they will need to continue to accumulate each until they have enough.  The allowance given doesn’t have to be much.  If for example, they get five dollars each week, two dollars can be put in to savings and the other three can be spent on what they want.

For example, during Christmas, our children can buy presents for each and for mom and dad.  But, they have a limit on how much they can spend, and they have to save for that from their allowance. They know what they want to spend and how much they need, so they save for it.  Learning to save teach them responsibility and accountability.