Give Your Kid a Match

BCR Wealth Strategies |

The proposal:  Deposit a dollar into your 16yo child’s Roth IRA for every dollar they earn at their first job up to $6,000.  Do this through the year they graduate college.

A question: How much tax-free money does this provide them at age 70 assuming 8% annualized returns?

The answer:  $2.3M

There is so much value in tax-free compounding.  Studying a 30yr time horizon proves that. But when you start looking at the value of compounding beyond 30 years.  Wow!

There is a story told in personal finance circles about the young professional that saves from age 25 – 35 and stops has more money in retirement than if they saved for 20 years but waited until age 35 to start.  Let’s look at those account values at age 70 with the same assumptions as above:

  • Saving from Age 25 – 35:  $1.38M
  • Saving from Age 35 – 55:  $940k

That is about $1M more tax-free dollars from providing this match for 7 years than your child maxing out this retirement account in 10 of his/her first working years. And almost $2M more than funding it 20 years through the middle of her career!  This is where you can really see the value in time and compounding interest beyond the typical 30-year timeframe.

The only requirement for executing this is for your child to have earned income of at least $6k in each tax year.  This means about 12 hours of work per week at $10/hr.

Depending on the state, your child is a minor until somewhere between 18 and 21.  You will need to open a custodial Roth IRA in their name to help facilitate this strategy in the early years.  You can make the deposits directly into the account during this time and you will have control of the account as the guardian. 

Once they reach legal age, the account will become their property.  It is important that you educate them on your ‘why’ for doing this for them.  Early withdrawals drastically derail the results above.

If you illustrate what this “match” is worth with time, you can expose them to disciplined savings habits, the beauty of compounding interest, and the benefits of delayed gratification.