Leave a Legacy for Your Grandchildren | American Funds

College Savings

september 2018

How Can You Help Secure Your Grandchild's Financial Future?

Here are 5 ways you can make a difference.

While many grandparents will tell you the best part of having grandchildren is the fun you have spoiling them, the truth is they take it more seriously than that. In fact, more than half of grandparents help with the costs of their grandchildren’s education, and more than a third provide money for basic living expenses. For many however, the most rewarding aspect of having grandchildren is the opportunity it provides to help them achieve a secure financial future.

“Virtually all of my high net worth clients do something for their grandkids,” says Austin Frye, an estate planning lawyer and the president of Frye Financial Center.

Here are five ways grandparents can leave a lasting financial legacy:

1. Contribute to a 529 Plan

For 73-year-old retired neuropsychopharmacologist Anne Shemer, the choice was simple. When Shemer’s four sons were in college, her mother helped pay their tuition. Now she’s following in her footsteps.

"Education is what we owe the next generation," she says. After the birth of each of her grandchildren, Shemer made a contribution to their 529 education savings plans, and she continues to do so annually.

Earnings in a 529 account grow tax fee, and withdrawals are free from federal income tax as long as the money is used to pay for qualified education expenses. There are no income restrictions on contributors, and an individual can gift up to $15,000 annually without any gift tax consequences. Once the contribution is made, the money is no longer considered part of the donor’s estate (for estate tax purposes). Some states provide additional tax benefits.

“Contributing as little as $50 a month from birth through high school can make a huge difference,” says Erika Safran, founder of Safran Wealth Advisors. Over 18 years, assuming an average annual return of 6%, the student would have $19,140 to put toward tuition.

If you set up your own 529 account and name your grandchild as the beneficiary, you decide how the money will be invested and when it will be distributed. Once the money is distributed it is considered student income, which could have a significant negative impact on financial aid.

However, if you contribute to the parent’s 529 education plan, the money is considered a parental asset when calculating the Expected Family Contribution (EFC) for federal financial aid. Those contributions count for up to 5.64% of assets versus 20% for student-owned assets; generally, parental income and assets are treated more favorably than child-owned assets and income.

“If you think the child will need financial aid, it’s best if the parents are the owners of the account,” Safran explains.

2. Set Up a Custodial Account

Grandparents can help foot the bill for college — or any other future expenses — by saving in a Uniform Gifts to Minors Act (UGMA) account or a Uniform Transfers to Minors Act (UTMA) account, otherwise known as custodial accounts. They can invest in an UGMA/UTMA custodial account and manage it on behalf of a grandchild until he or she turns 18 or 21, depending on the state.

Among the benefits of a custodial account:

  • They generally offer a wide range of investment options from which to choose.
  • There are no contribution limits, and you can contribute virtually any type of asset — including real estate.

Before establishing an UGMA/UTMA, however, consider the following:

  • Once children reach legal age, the money is theirs to spend. If you’re worried your grandchild might not use it wisely, this may not be the best option.
  • Custodial accounts are counted as a student’s assets, so when calculating financial aid they are factored into the EFC at 20%.
  • These accounts offer only modest tax benefits. For 2017, if a child is a minor, the first $1,050 in the account is tax-free and the next $1,050 is taxed at the child’s rate. Anything above $2,100 is taxed at your tax rate.

3. Establish a Trust

Grandparents who want more control over how and when their gifts will be spent should consider creating a trust.

“Trusts are a good option for grandparents who want to give a monetary gift, but want to make sure the funds are used properly,” Frye states.

Keep in mind:

  • Trusts can help you reduce the size of your estate. You can transfer up to $15,000 ($30,000 for married couples) a year for each of your grandchildren without triggering the gift tax.
  • Income earned on amounts you’ve deposited will not be taxed to you as the trust pays the taxes.
  • A trust is a legal document; you will incur attorney fees establishing and maintaining the trust.

4. Fund a Roth IRA

If you have grandchildren under the age of 18 who have earned income (either formal employment income or self-employment income), you can help them secure their future by opening a custodial Roth IRA.

Your contribution can’t be more than they earn for the year, or the maximum of $5,500 (IRS cap for 2017). Your grandchild doesn’t necessarily have to put the money they earn into the account. For example, should they choose to take the $3,500 they made from a summer job and apply it toward the purchase of a car, you could still contribute $3,500 to their Roth IRA.

While it may seem like a small amount, think of it this way. If you were to contribute $2,000 a year over the course of four years starting when your grandchild turns 15, assuming a 6% annual rate of return, that money will grow to over $143,000 by the time they turn 66.

You control the Roth IRA until your grandchild turns 18 or 21, depending upon the state. At such time the money is transferred into a new account in his or her name.

5. Share Financial Lessons

According to Amy Goyer, caregiving and family expert for AARP, when it comes to teaching grandchildren about managing money, grandparents can play an important role. "Children are often more open to hearing the opinions of their grandparents who offer unconditional love.”

Here are three ideas to encourage responsible financial behavior:

  • Help your grandchildren establish a habit of saving. Institute a “grandparent match” so that when they save a certain amount or offer to do a special chore you contribute something to their effort.
  • When you give a cash gift, discuss how the money will be used — whether it's spending, donating, saving or investing.
  • Tell them about an item you saved for when you were young and how you earned the money to purchase it. If you take your grandchild out for a meal, explain why you leave a tip for the server. Share examples that speak to the value of working hard and saving to achieve goals.

Funding college accounts, establishing retirement savings or setting up trusts can help secure your grandchild's financial future, and offering lessons on how to handle money could be your greatest gift of all.

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