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Apr 24, 2024

How To Save Money for Kids

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Parent holding young child's hand

Raising a child can be expensive. There are lots of costs while they’re small, and even more financial considerations in the future when they’re launching into young adulthood. Whether you’re a parent/guardian, family member, or other parental figure in a child’s life, there’s a good chance you’re thinking about their financial future, long before it’s even on their radar. 

Research shows that the average cost of raising a child is around $21,681 per year, and the total average expense is nearly $240,000 from birth to age 18. That doesn’t even include considerations like saving money for college, moving out of the house, or starting a nest egg for later in life. That’s a pretty big price tag, and it can take some strategic saving for the average family to afford. 

The best way to save money for your child, and how much you should be saving for them, depends on your financial circumstances and goals. Luckily, there are plenty of saving and investing accounts designed specifically to help you save money for kids. 

In this article, you’ll learn:

How to save money for kids in the short term

What’s on the horizon for your kids in the next one to five years? Putting aside money now can help you ensure you’ll have what you need for near-term expenses, such as extracurricular activities, childcare, medical needs, and household expenses to accommodate their growth, like new clothes and furniture. 

Short-term savings options are also ideal ways to help kids learn how to save for themselves, like putting a portion of their allowance into a kids’ savings account so they can buy that cool, expensive toy they’re eyeing.  

There are several options for short-term savings that help you put aside money and help it grow faster through the power of compounding.   

Account typeBalance & contribution rulesUsage rulesWithdrawal rulesHow money is madeTaxes
High-yield savings accountNo limits; money is FDIC insured up to $250,000Money can be added or withdrawn at any timeCan withdraw from the account six times a month for any reasonVariable interest rateInterest is subject to ordinary income tax
CDTypically requires a minimum balance, FDIC insured up to $250,000A parent or guardian can open a CD on a child’s behalfUsually, money cannot be withdrawn without penalty until the end of the CD termFixed interest rateInterest is subject to ordinary income tax
HSAContributions limited to $7,750 a year (as of 2024)Can only be opened by guardians with qualified insurance plansCan only withdraw money for qualified medical expenses or after age 65Interest and capital gains from investments in securitiesTax-deductible contributions and tax-free growth and withdrawals

High-yield savings accounts

There’s a good chance you’re familiar with a regular savings account. A high-yield savings account functions very similarly, but it typically offers an annual percentage yield (APY) that’s much higher than your standard account. As of February 2024, the average APY for a standard savings account is 0.46%, while some high-yield savings accounts have APYs as high as 5.25%. That said, be aware that high-yield savings accounts have variable interest rates, which could go up or down at any time.

In addition to higher interest rates, accounts at banks and credit unions that are member FDIC are federally insured up to $250,000, so there’s virtually no risk. Plus, if you keep money in a high-yield savings account, you can take advantage of compound interest: each period earning interest on the previous period’s interest. Your money is easy to access, though there may be withdrawal restrictions and fees. 

Certificates of deposit

If you have a bit of money saved up now and want to help it grow in the short term, a certificate of deposit (CD) can be a good choice. A CD pays a fixed interest rate over a specific period of time; terms are generally between six months and five years. CDs usually have a higher APY than traditional savings accounts, and your return is guaranteed because the interest rate won’t drop. For example, if you want to invest $1,000 for a child, you can open a CD, and at the end of the term you’ll get back that principal plus the interest earned at the rate in effect when you opened the account.  

Keep in mind that, unlike a high-yield savings account, CDs lock away your money away for the duration. You generally can’t withdraw before the end of the term without paying penalties. A child under 18 can’t open a CD for themselves, but you can open one on their behalf. 

Health savings accounts

A health savings account (HSA) is a tax-advantaged account that can help you save money for kids’ health expenses. If you have a high-deductible insurance plan, an HSA may be available. Those with qualified plans can contribute up to $7,750 a year to a HSA on behalf of each of their kids, as of 2024. 

HSA contributions are tax-deductible and grow tax-free. Money can then be withdrawn at any time to pay for qualified medical expenses. At the age of 65, whatever money is left in the account can be withdrawn for any reason and is subject to regular income tax. While this savings option is limited to medical expenses, it comes with significant tax benefits you can’t get with savings accounts or CDs. 

How to save money for kids in the long term

When you’re thinking about your child’s future, consider the really big expenses on the distant horizon. These are the things that can take many years to save for, like higher-education expenses, long-term financial security, and even starting their retirement savings. 

While it often makes sense to keep money for short-term goals in interest-bearing accounts, those interest rates don’t usually keep up with inflation over the long term. Investing, however, often produces returns that beat inflation, and it can provide tax benefits as well. There are several types of investment accounts tailored specifically to saving money for kids over the long term. 

Account typeContribution limitsUsage rulesWithdrawal rulesHow money is madeTaxes
Custodial accountNoneAnyone can contribute; only the beneficiary can withdrawMoney can be withdrawn by the beneficiary at adulthood Capital gains from investments in securitiesContributions could trigger a gift tax; withdrawals are taxed as income
529 planVaries by stateVaries by stateMoney can only be withdrawn for qualified education expensesCapital gains from investments in securitiesContributions are tax-deductible; qualified withdrawals are tax-free
ESA$2,000 annually (as of 2024)Limits based on guardian income and child’s characteristicsMoney can only be withdrawn for qualified education expensesCapital gains from investments in securitiesContributions are post-tax; qualified withdrawals are tax-free
Roth IRAUp to $7,000 or the child’s income for the year (as of 2024)A child must make income within the year in order to contributePrincipal can be withdrawn anytime; earnings can be withdrawn at age 59½Capital gains from investments in securitiesContributions are post-tax; qualified withdrawals are tax-free
Trust fundNoneVaries by type of trustWithdrawal rules depend on how the account is set upCan hold multiple types of assetsTaxes vary

Custodial accounts

The Uniform Transfers to Minors Act (UTMA) and Uniform Gifts to Minors Act (UGMA) are two custodial accounts that allow you to invest money on a child’s behalf. Parents, or anyone else saving money for kids, can invest in stocks, bonds, mutual funds, and more through these tax-advantaged accounts. The money can then grow until the child reaches adulthood; the specific age is between 18 and 25, depending on your state. Once the beneficiary is an adult, they can withdraw money any time. These can be effective investment accounts for passing on wealth or saving for a child who may not pursue higher education.

Anyone can contribute any amount to a custodial account, but there are some tax considerations. Adults can contribute up to $17,000 annually (as a single filer) or $34,000 annually (as a married couple filing jointly) before triggering the federal gift tax. On the plus side, the first $1,050 of capital gains each year are not taxed.

Contributions to custodial accounts are considered gifts; the assets in the account belong to the beneficiary. That means you can contribute money and manage the investments, but you can’t withdraw money for yourself. Assets can only be withdrawn for the child’s benefit while they’re a minor, or by the beneficiary when they come of age.

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Education accounts

From the moment kids start school through their college graduation, there are plenty of expenses for a child’s schooling. 529s and Coverdell Education Savings Accounts (ESAs) are two account types designed to help you save for a child’s educational expenses. 

The main difference between a custodial account and a 529 plan is the purpose: while custodial accounts can be used for anything to benefit a child, 529 plans are specifically for qualified education expenses, such as college tuition, K-12 school fees, and some apprenticeship programs. These accounts can help you save money for kids’ school costs when they’re minors, as well as set young adults up for college with less reliance on student loans, so they start adulthood with less debt. There are two types of 529 plans: a general education savings plan that provides tax deductions for contributions and tax-free qualified withdrawals, and a prepaid tuition plan that locks in current tuition rates for in-state public institutions. For both these account types, rules about who can contribute, contribution limits, and investment options vary significantly from state to state. 

An ESA is an education investment account for beneficiaries under 18. Money can be used for a wide variety of qualified K-12 or college education expenses, such as tuition, books, tutoring, and educational services for children with special needs. Parents or legal guardians typically have to make less than $110,000 (filing single) or $220,000 (married filing jointly) and are limited to $2,000 of annual contributions (as of 2024). Contributions are made post-tax, and qualified withdrawals are generally tax-free. If there’s still money in the account after the beneficiary turns 30, it’s distributed to them and is subject to taxes. 

Roth IRAs

When you’re holding a baby, the idea of that child’s retirement may feel hard to fathom. But considering that more than half of Americans say they won’t have enough to retire, giving your kids a leg up for their far-off future may be a good idea no matter their age now. 

A Roth IRA allows investors to save after-tax dollars for retirement. The annual contribution limit is $7,000 as of 2024; there are some additional limitations for people earning over $138,000. Withdrawals of both your principal contributions and earnings are tax-free after age 59½; you’ll have to pay a penalty if you take out earnings before then. And the principal amount you put in a Roth IRA can be taken out anytime without incurring taxes or penalties, making this retirement account surprisingly flexible. 

There are a couple ways you can use a Roth IRA to save money for kids:

  • Custodial Roth IRA: Any individual can contribute to a Roth IRA if they’ve earned income. That means your child can start contributing as soon as they start making money, including income from odd jobs like babysitting, mowing grass, or a lemonade stand. Other people can also contribute to the IRA on the child’s behalf, as long as those contributions don’t exceed the child’s earned income. The custodial Roth IRA is managed by the parent until the child turns 18 (or 25 in some states).
  • Your estate’s Roth IRA: If you have a Roth IRA of your own, you can pass it down to your children after your death. This allows you to will the account to a beneficiary, who will enjoy tax benefits. The beneficiary can’t make additional contributions, but the funds can generally be withdrawn immediately without penalty. Typically, the beneficiary must liquidate the account by the end of the tenth year following their inheritance. 

Trust funds

When you’re exploring how to save money for kids, you might want to consider setting up a trust fund. While many people assume trust funds are just for very wealthy people, they’re actually flexible options for many different financial situations. A trust fund is a legal agreement managed by a third party that holds assets on behalf of a beneficiary; those assets can include things like cash, investment accounts, and even vehicles and real estate. There are many different types of trusts, so you’ll likely want to consult an estate planner, lawyer, or accountant. Setting up a child’s trust fund often comes with high costs upfront, but they’re more versatile than custodial accounts. 

How to get your kids involved in saving

As you’re deciding how to save money for kids’ futures, you might want to get them involved in the process. This is an opportunity to provide them with the financial education necessary to build good money habits early, manage their own money now, and responsibly handle any money you save up for them to use in the future. 

Here are a few ways you can teach your kids financial responsibility:

  • Talk about money with them: Teach them about the principles of financial literacy, incorporating ideas about earning, spending, and saving money into age-appropriate conversations and games. You can even include older kids in your household budgeting process to make personal finance planning a family affair.
  • Give them an allowance for spending and saving: Giving children a small amount of money to manage on their own can empower them to learn good money habits. You might divide their allowance into “spending money” and “saving money” so they learn to save from a young age.
  • Set savings goals with them: Help kids learn the value of saving money by setting specific savings goals for the bigger things they want to buy with their own money. You can give them an incentive to save by tracking their progress together and offering to match their savings or contribute a reward to their account.
  • Open a kids’ bank account: Many financial institutions offer checking and savings accounts specifically for children. These accounts usually must be opened jointly with an adult and have features to make them kid-friendly, like no fees or minimum balance requirements. Having their own account can help kids get comfortable with banking and managing their money. Some of the best savings accounts for a child even offer interest so they can see their money grow. 

How to save money for kids: getting started 

There are a lot of expenses over the course of a child’s life, from short-term needs to setting them up for long-lasting financial security. It may be overwhelming to think about how to save money for kids, but the good news is that you can start small and build up your savings and investment accounts over time. Here are three simple steps for getting started on your long-term goals:

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Written by

Tara Blaine

Tara Blaine draws on over 20 years of experience as a writer to translate seemingly complex financial ideas into insights readers can put to work in their everyday lives. She’s written personal finance education materials for numerous institutions, helping customers learn smart techniques for budgeting, overcoming debt, saving money, and planning for their long-term financial health.

“Kids Portfolio” is a custodial UGMA/UTMA account. Money in a custodial accounts is the property of the minor.


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