Raising financially independent adults involves more than just handing out money or funding their education. It’s about providing them with essential financial knowledge and the mindset to grow and manage wealth over time.

Mapping the Route to Financial Success

This article presents six practical steps to set your kids on the road to financial success. You’ll learn when to start saving for them, the best available savings options, and how to foster financial literacy.

Taking the First Step: When and How Much to Save?

As a parent, it’s essential to clarify your financial goals before you can guide your children. While it’s natural to want the best for your kids, taking prudent decisions for your own financial future is crucial.

Avoid jeopardizing your financial security by rushing to save for your children’s education or their future. It’s important to set aside money for your kids only if it doesn’t strain your financial capabilities.

Safeguard Your Retirement First

Ideally, you should regularly save at least 10% to 15% of your gross income for retirement before saving for your kids. And if you’re less than 20 years from retirement and haven’t reached 80% of your savings goal, I want to encourage you to stay exclusively focused on building your retirement nest egg.

Yes, I know it might sound coldhearted for a parent to refuse to pay for a child’s education. Remember that kids have options like working, getting scholarships, and taking out federal student loans. However, you won’t have any loans or grants to support you in retirement after you stop working.

Later on, if you end up with a surplus of retirement savings, you can help a child by paying off their debts or giving them cash gifts. The bottom line is that you must shore up your financial well-being first, even if that means saving nothing or less than you’d like for your kids.

6 ways to prepare kids for financial freedom

Consider these six ways to give your kids a financial head start and learn how to manage and grow wealth independently as adults.

Use a bank savings account.

An FDIC-insured bank savings account is one of the safest places to save for a child’s future. The problem is, it doesn’t come with many benefits. A regular savings account pays relatively low interest, and your earnings get taxed as income.

If you have a large amount to save, consider getting a high-yield savings account, which can pay up to ten times the national average for regular savings. However, what you earn is still lower than other options we’ll cover.

For example, if you save $100 a month for 20 years in a bank account earning 0.25% interest, you’d accumulate less than $25,000. But if you put the same amount in high-yield savings, making 4.5%, you’d have almost $37,000 after two decades.

Another option is to open a certificate of deposit or CD with a bank or other financial institution for even higher returns. CDs can be FDIC-insured, and they’re also extremely safe.

With a CD, you loan money to the institution, which lends it to its customers, and you receive a set rate for a period, called the term. CD terms can range from a few months to several years. In general, the longer the term, the more interest you receive. When the term ends, you receive your initial deposit plus any interest accrued.

Using FDIC-insured bank savings, high-yield savings, or a CD means it’s entirely safe from investment risk. But in exchange for safety, they pay modest interest. That means you could leave many thousands of dollars on the table compared to investing the funds.

CDs offer a guaranteed return on your money with low risk. Laura covers how CDs work, different types, maximizing income with laddering, and where to find the best offers. Listen in this player:

Open a 529 college savings plan.

Paying for college is the most common reason parents want to save money for their kids. If you or your child know that college is in the future, one of the best options is to open a 529 college savings plan.

With a 529, you contribute funds on any schedule you like and choose how to invest them from a menu of options, such as mutual funds. Your 529 funds can be withdrawn tax-free if you use them to pay qualified education expenses, such as tuition, fees, books, required equipment, and room and board.

Funds in a 529 plan can be spent at U.S. accredited schools and even at some foreign institutions. For example, you could live in Florida, participate in a New York 529 plan, and use the funds to send a child to college in California.

Thanks to the Tax Cuts and Jobs Act of 2017, you can also spend up to $10,000 per beneficiary per year tax-free on elementary and secondary school expenses. That gives parents the flexibility to withdraw funds for a younger child attending a public, private, or religious school.

You can use a 529 no matter how much you earn, and the maximum annual contribution limit depends on the plan you choose, but it could be over six figures per student!

​​Note that funds in a 529 belong to the owner (typically a parent), and the account can have one designated beneficiary, the future student. So, if you want to save for more than one child, you must generally open an account for each. But you can also change a 529 beneficiary to another family member or roll it over to another 529 without triggering taxes.

Another new option created by SECURE 2.0 called the 529-rollover-to-Roth-IRA begins in 2024. If your beneficiary has a Roth IRA, you can move some unused 529 funds to it.

However, the 529 must be open for at least 15 years, and the lifetime rollover limit is $35,000 per beneficiary. Plus, any 529 contributions (and their earnings) made within the past five years can’t get transferred to a Roth IRA.

A rollover Roth IRA must be in the beneficiary’s name, not the 529 plan. That means your child must have some amount of earned income to qualify for a Roth IRA in the first place.

For 2023, you can contribute up to $6,500 to a Roth IRA if you’re under 50 and have that much earned income. So, this tax-free rollover benefit only applies to working older children–but may give them an excellent head start on retirement savings.

How do you raise millionaires? We’ll cover legitimate ways minors can have a Roth IRA and take advantage of its massive tax-saving benefits. Listen in the player below: 

Due to the benefits of a 529—such as tax advantages, flexibility, and high contribution limits—it gets my vote as the best account to save for a child’s education. Additionally, your 529 funds are a smaller factor in the calculation for financial aid than other options we’ll cover.

The main drawback is that if you use a 529 for non-qualified education expenses, you’ll have to pay income tax plus a 10% penalty on those withdrawals of account earnings. So, never put more in a 529 than you estimate your child will need for their total education expenses.

To sign up for a 529, you can go directly to the plan manager, use a financial advisor, or start doing your homework at a site like Pelican.

Invest using a UGMA or UTMA account.

In most states, minors can’t own investments and financial products in their names. That means parents can’t just give investments or transfer assets to a minor child without creating a trust or opening a custodial account known as a UGMA (Uniform Gift to Minors Act) or UTMA (Uniform Transfer to Minors Act). They allow investments for minors, such as mutual funds and real estate, to be held in the care of an account custodian.

You can set up a UGMA or UTMA account at most banks and brokerage firms. Then you can withdraw to cover expenses that benefit a child, such as education and healthcare. And when they become an adult (usually 18 or 21, depending on your state), the account assets automatically transfer into the child’s name.

The main benefit of using a UGMA or UTMA account is giving a child as much money or assets as you like. There are no annual limits, and a portion of the account’s investment earnings gets taxed at your child’s income tax rate, which can reduce taxes.

The downside of UGMA and UTMA accounts is that once the child reaches the age of majority, parents have no control over how the child spends the funds. Also, custodial accounts are considered an asset of the child, which means they’re a more significant factor in the calculation for financial aid than accounts owned by a parent, such as a 529 plan.

Contribute to a Roth IRA.

Many people don’t realize that kids can have an IRA if they have earned income from a part-time job or self-employment income. As a parent, you can make an IRA contribution on your child’s behalf for as much as they earn, up to the annual limit, currently $6,500 for 2023.

But you can’t fund an IRA for an infant or toddler who can’t legitimately earn income–so it’s only available for working older children.

Unlike other retirement accounts, you can withdraw your original contributions (but not earnings) from a Roth IRA before retirement without paying taxes or a 10% early withdrawal penalty. That flexibility makes a Roth IRA an excellent account choice for retirement and a child’s future expenses.

READ ALSO: 10 IRA Fact Everyone Should Know

Buy life insurance.

Life insurance is a contract that pays one or more beneficiaries after the policyholder’s death. There are two main types: term and permanent.

Term life insurance pays a cash benefit if you die within a period, such as in 10 or 20 years. A permanent life policy covers you no matter when you die, and it may also accumulate a cash value you can tap into or allow it to grow for a child.

If you’re relatively young and healthy, a $500,000, 20-year term life policy may only cost less than $20 per month. It’s wise to cover both parents, even if one is a stay-at-home caretaker because the cost to replace them would be significant.

If you get life insurance through work, it may not be enough. Most companies offer coverage equal to one or two times your annual salary. Depending on your financial needs and family size, having life coverage equal to ten times your income is a good rule of thumb.

Also, remember that if you leave your job or get terminated, your life coverage will end. Since you can have multiple life policies, it’s wise to maintain your own insurance in addition to any you may get through work.

The downside of life insurance is that it typically doesn’t provide a benefit until the policyholder dies. However, if you have a permanent policy that builds cash value over time, you could tap it to pay expenses for a child, such as education or a vehicle.

Encourage financial education

The sooner you can talk to your kids about spending, saving, investing, and giving money, the better. You might give them books, games, or apps designed to teach financial literacy concepts appropriate for their age.

And, of course, kids are listening to and watching their parents’ attitudes and habits around money. So being a good financial role model is probably the best way to prepare kids for a successful future, even if you can’t afford to save much money for them now.