If you’ve worked hard to create a comfortable life for your family, you might be wondering how to ensure your grandchildren are able to enjoy some of the benefits. Using your legacy to help them get ahead in life can be rewarding for you, offer some financial relief for your children, and prove to be a generous leg up for the next generation.
Whether helping to fund their college, contributing to the down payment on their first home or simply providing financial confidence as they navigate life, investing for your grandchildren now can help bolster your family in the future—within your lifetime and even after you are gone.
Here are 5 smart ways to pass along money to your grandchildren.
1. Education Savings Plans
A 529 College Savings Plan is a popular tax-advantaged way parents and grandparents can invest in a child’s education. It’s a great way to help students avoid loans that leave them starting adult life off in the red. The money can be used exclusively for qualifying education expenses, including tuition, books, supplies, and room and board, for a university education, accredited vocational training, or K-12 private school education.
With 529 plans, the IRS doesn’t set annual contribution limits, but rules vary by plan and by state, so you’ll need to do your research. Individual plans may set contribution limits, but the limit is typically high. Keep in mind that, for tax purposes, contributions are considered gifts that qualify for the annual gift tax exclusion. In 2022 the limit increased to $16,000 per individual contributor, per child. You also have the option to treat the contribution as if it were spread over a five-year period, and in 2021 may contribute up to $75,000, using a tax planning strategy known as superfunding. This only scratches the surface of what’s possible and what you should know, so we encourage you to work with a qualified tax advisor to determine the most tax-advantaged ways to give.
Rest assured that you retain control of the investment decisions in the account. You can set up a separate plan for each grandchild, keeping in mind that the funds are transferable to another beneficiary within your family if that child doesn’t have use for it. And if your grandchildren don’t use the money or you need it back for some reason, you have the option to reclaim it by paying a 10% penalty and taxes on any earnings.
2. Prepaid Tuition Plans
Another way to support your grandchildren’s education is through prepaid tuition plans. These plans are administered by the state and allow you to lock in tuition costs at today’s rates for any state public college or university. Essentially, you are purchasing college credits at the current price, and your grandchildren will cash in the credits when it comes time for them to attend a university. And any gains from this program are exempt from federal income tax.
In many cases, if your grandchild chooses to go to college out of state or attend a private university, the plan can still be beneficial as it allows them to receive and apply an amount equal to the average state school tuition upon enrollment at the time of the withdrawal.
You’ll want to look carefully at the fine print to check for guarantees of full tuition coverage and ensure you understand the details of your state’s plan.
3. Savings and Investment Accounts
It’s never too early to begin saving and investing for your grandchild. Begin with a high-yield savings account where your cash gifts can grow into a sizable sum for years to come. You might enjoy watching them open up lots of toys now, but it may be even more appreciated down the line and more rewarding to know the accumulated money could be used towards their first car, wedding, or a downpayment on their first home.
Helping to fund a brokerage account, and educating them about it along the way, means you are not only exposing them to the power of financial literacy but you are providing opportunities for one of the foundational tenets of investing—long-term, compounding growth as the engine for wealth building.
Uniform Transfers to Minors Act/Uniform Gifts to Minors Act (UTMA/UGMA) accounts offer flexibility with few restrictions. Like education savings plans, you have the option to contribute up to $16,000 gift-tax free. You or an appointee would serve as the custodian on the account to oversee the administration until the child reaches the age of 18 or 21, depending on the state, at which point the child gets control of the account’s funds.
As soon as they get their first summer job as a teenager, you can also set up a tax-advantaged custodial retirement account for them. Funding an IRA for your grandchild from a young age or offering to match contributions they personally make will give them a head start that will pay off over a lifetime. With a Roth IRA in particular, contributions are taxed while returns are not, so they will potentially benefit from decades of investment growth.
4. Set up a Trust
One of the most common ways for grandparents to pass down wealth is through a trust. Despite ideas you may have about “trust fund kids” trusts are not only for the exceedingly wealthy; it’s simply a tool for passing along money to an heir or beneficiary.
With a trust, the funds remain controlled by a custodian until the child reaches the age of 18, 21, 25, or another age specified by you. You can indicate that certain amounts are released in increments.
You’ll want to consider how the trust may affect your grandchild. It may limit their ability to receive financial aid in college, and if they receive a large sum at an early age, many young adults are not mature enough to use the money wisely. In many cases, it makes more sense for them to get larger distributions when they are older and more responsible.
5. Name Them as Beneficiaries
You may want to consider making your grandchildren beneficiaries or contingent beneficiaries on your accounts. How you do this will depend on whether your grandchildren are adults or minors, but it may involve simply naming them as your beneficiary or it may involve also setting up a trust dictating how the funds will be distributed.
Whether you are selecting beneficiaries for your life insurance accounts, retirement accounts, or other investment accounts, naming grandchildren as beneficiaries means the money will pass to them without going through probate. It’s important to think carefully about how each beneficiary will be impacted by the money, meaning how they will be taxed, whether or not it will interfere with benefits they receive in the case of special needs individuals, and more.
The Gift of a Grandparent
You are concerned for your grandchildren’s financial future and in the position to pass money on to them. That alone is a gift and they are fortunate to have you. As you consider what you will provide for them and how that will be shared, think about how you can set them up for success. Be sure to teach them what you know or point them in the right direction to learn. Financial education is priceless.
Robert "Fenn" Giles, Jr., MBA, CIMA® is a founding partner of Wealth Advisors of Tampa Bay (WATB) and acts as the firm’s President and Chief Investment Officer. WATB is an independent Registered Investment Advisor (RIA) located in Tampa, Florida. Learn more about them at wealthadvtb.com.
The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual.
This information is not intended to be a substitute for specific individualized tax advice. We suggest that you discuss your specific tax issues with a qualified tax advisor.
Before investing, contact the 529 plan provider for details on the college savings plan’s investment objectives, expenses, charges, risks, features, benefits, limitations, and other important details included in the Plan Agreement and Plan Description. Before investing in any 529 plan, always consult your financial, tax, and other advisors for guidance on considerations specific to your circumstances that may apply according to your state and the beneficiary’s home state. State-based benefits should be one of many appropriately weighted factors to be considered when making an investment decision.
Keep in mind that the availability of tax and other benefits may be contingent on meeting other requirements. Please note that earnings on nonqualified withdrawals are subject to federal income tax and may be subject to a 10 percent federal tax penalty, as well as state and local income taxes.
This material was prepared by Crystal Marketing Solutions, LLC, and does not necessarily represent the views of the presenting party, nor their affiliates. This information has been derived from sources believed to be accurate and is intended merely for educational purposes, not as advice.