Having children is both fun and fulfilling. However, having kids is not cheap. On average, a family will spend over $12,000 per year on each of their children. Some of these expenses will vary from year-to-year. For example, education expenses increase radically as children grow up. Similarly, teenagers eat much more than pre-schoolers.
Other expenses remain fairly constant. For example, a child’s share of your housing expenses will be stable over their time living at home.
The need for ever-increasing amounts of money as children age highlights the need for financial planning for kids. Even before your first child is born, you will likely need to save up for baby furniture, post-natal medical expenses, and a car seat.
However, this will just be the first step of financial planning for kids. As your kids grow, you will need to balance your cash flow for your child’s immediate needs, like clothing, with your savings for big-ticket items down the road, like braces and college.
Financial planning for kids begins with understanding what your kids’ needs will be, how financial planning works, and how it can help you meet your kids’ needs.
Here are ten ways to approach financial planning for kids:
How Much Should I Save?
This depends on what your child’s plans are. However, if you want your child to attend college, you will probably need to save a lot.
The cost of a college education triples about every 17 years. This means that a rough estimate of your child’s tuition, housing, and supplies at age 18 will be about three times those costs the year the child was born.
So, for example, if your child was born in 2017, the average cost of tuition, housing, and supplies at a public university was about $20,000 per year. You can assume that by the time your child turns 18, those costs will be about $60,000 per year.
This number is staggering. To fully pay for a four-year college degree, you would need to save over $1,100 per month, for every month of the child’s 18-year childhood.
Importantly, this does not account for either your increase in daily living expenses from supporting your child (which makes it harder to save money) or the other extraordinary expenses you will incur such as sending your child to the best private elementary schools. Additionally, this assumes that you are saving only for your child’s college education and not for other purposes like a wedding, car, or first home.
Once all those expenses are added in, you could be in a position where you need to save much more than you expect to earn over that period of time.
Fortunately, financial planning for kids can include various options for saving enough for your child’s future needs. Some examples include:
- Child tax credit: The federal government offers a child tax credit worth up to $2,000 per child as long as your income is less than $400,000 for a married couple and $200,000 for a single parent. This tax credit reduces your federal income tax dollar-for-dollar and up to $1,400 of it is refundable. This means that if your deductions and credits reduce your tax liability to zero, you can receive “free money” from the government up to $1,400 per child.
- 529 college savings plan: Most states have a 529 college savings plan to help parents save for their child’s education. The benefit of investing in a 529 college savings plan is that the money grows tax-free, meaning that you invest after-tax dollars but any growth in the investment is non-taxable. Distributions from the account that are used for qualifying expenses, like tuition, are also tax-free.
- Financial planning: Financial services firms offer wealth management and other financial planning services to help you to grow the savings needed to pay for your child’s needs. For example, if your college savings is invested and produces a return of 6% annually, you might only need to save a fraction of the entire college tuition amount and allow the growth to make up the difference.
When developing your financial planning for kids, you need to account for many aspects of your financial state including expenses, income, savings, and investments. One of the best ways to ensure that your income covers your expenses and leaves enough for savings and investments is to develop a budget.
Budgeting is an easy concept to understand, but a difficult practice to implement. Budgeting requires both a realistic view of what you have and what you need and the discipline to live within your means.
A few suggestions to develop and stick to a budget include:
- Be realistic: Some expenses are easy to predict. For example, your utility bills are probably fairly stable within each season. However, other expenses will vary. The goal of a budget is to realistically assess those expenses. If you like to eat out, your budget needs to account for that, or you will fall short every month.
- Account for emergencies: Expect the unexpected. This does not mean that you need to predict that your child will develop a cavity and need a filling from a childrens dentist in September. However, it does mean that you should plan for unexpected expenses and budget for them.
- Cut unnecessary expenses: Once you have a handle on your expenses, get rod of any unnecessary ones. For example, if you are paying for satellite TV and streaming services, choose one or the other and eliminate the other.
- Move savings and investments: When you receive your paycheck, move your savings or investment money into a different account. This will remove the temptation to spend it.
Options for Investing and Saving
Financial planning for kids will almost always include a decision about how to allocate your savings and where to put it. Among the options include savings accounts, certificates of deposit, bonds, mutual finds, and stocks.
There is almost always a tension between liquidity and return on investment (ROI). Liquid assets, like cash, are easy to access but provide very low ROI. The reason is that savings accounts pay a notoriously low interest rate.
Conversely, other assets might product a higher ROI but be difficult to cash out of. For example, individual stock investments could produce a return well over 10% but take a number of steps to liquidate. To liquidate a stock holding, you need to place a sell order, wait for the sale proceeds to e transferred from your brokerage account to your savings or checking account.
Additionally, you must account for risk. Interest-bearing investments are usually low risk, but low ROI. Stocks and mutual funds can produce a high ROI but are also high risk. Investing in equities can leave you with nothing to pay for your child’s college tuition if the market crashes.
There are some industries that are considered fairly recession-proof. For example, healthcare businesses such as a hospital chain, health insurance provider, drug company, or medical device manufacturer might be in demand whether the economy is growing or shrinking. Likewise, food companies and utilities can be good investments because they usually weather recessions.
Steady Job (Preferably with Benefits)
One of the most important elements of budgeting is having a steady income. Even better is a steady income and benefits, like retirement savings and health insurance. The issue that you will run into is that full time work (which is required by many businesses to qualify for benefits) will necessitate child care.
There are tax credits intended to offset some of the cost of child care. However, you will have to balance the value of your benefits against the costs of child care. For example, having access to quality pediatric care might far outweigh the expense of daycare or a babysitter, especially after your kids are old enough to attend school.
Retirement accounts like 401(k)s are a good way to save money because the penalties for early withdrawal will provide an incentive for you to leave the money alone. The drawback, however, is that they are intended for retirement and, for the most part, cannot be used for pre-retirement expenses without penalty.
A 401(k) contribution is made with pre-tax dollars. This saves you money on your taxes by reducing your adjusted gross income. When you retire, your withdrawals are taxed, but the profits that accrued over your working life are not. However, if you withdraw the funds before retirement, such as to pay for your child’s college tuition, you will pay taxes on the withdrawal and a penalty.
The rules are different for an IRA. If you use a Roth IRA or Traditional IRA for your savings, you are allowed to withdraw money for educational purposes. This means that while you are doing your financial planning for kids, you should put some of your retirement money into an IRA.
The benefit of a Roth IRA is that it is funded with after-tax dollars, meaning that the withdrawals for education expenses will not be subject to taxes or penalties. Traditional IRAs also permit withdrawals to pay for college. However, you will be required to pay taxes on the withdrawn funds but will not pay any penalties.
Healthcare burdens are rising for most families. Even those on employer-sponsored plans have seen an increase in their contribution to premiums and an increase in the deductibles they are expected to pay to access medical care.
This creates a huge burden on families. On the other hand, going without insurance can put families in a precarious financial position. One illness or accident could send the family into bankruptcy, buried under a wave of doctor and hospital bills.
Unfortunately, there is no good solution. The Healthcare Marketplace under the Affordable Care Act allows people who are not covered by employer plans to shop for individual plans. Moreover, many Americans are eligible for premium subsidies that help reduce the cost of health insurance.
While health insurance is a significant expense for most families, financial planning for kids almost requires that you maintain health insurance to avoid the financial devastation of medical costs while uninsured.
Take Advantage of Government Benefits
Financial planning for kids also means finding as many sources of income as you can. For some parents, their earning potential is limited by physical or mental disabilities. For these parents, applying for disability benefits from the Social Security Administration or Veterans Administration may be a good option for providing a steady income to their families.
Buy a Home
A good investment for those who can afford it is a home. For many Americans, a home is their most expensive purchase, but also their most valuable asset.
Homes appreciate in value over time and the equity in your home can be used to borrow money using a home equity line of credit or home equity loan. This means that you do not need to sell your home to access its value. Rather, you can use it as collateral so secure the cash you need for major expenses like college tuition or a wedding.
Home ownership stands in contrast to renting. Renting is an expense. You do not acquire equity in your rental home and cannot sell it if you need quick cash.
For those planning for their kids’ financial futures, moving from a rental home into your own home might be one of the best ways to build and save wealth.
While it is a little bit of a downer, buying life insurance is a key part of your financial planning for kids. If something happens to you, your children will need some means of support.
So, instead of waiting until your 65th birthday party when you will not need and cannot afford term life insurance. In fact, term life insurance is cheaper for younger people because the likelihood of dying young is relatively low. This makes term life insurance a no-brainer for your financial planning for kids — it is inexpensive and can set your children up if anything happens to you.
Estate planning runs along the same lines as life insurance. Once you have children, you will likely need to have a will or living trust to protect your estate and make sure it passes to your children in the cleanest and least expensive manner possible.
Specifically, an estate plan can:
- Minimize estate taxes and probate fees: Setting up your estate properly can reduce the tax liability and legal fees incurred by your estate when you die. This means more of your estate will pass to your children.
- Ensure your wishes are carried out: If you die intestate (the legal term for someone who does not have a will), a judge will divide your property according to your state’s laws. This will be true even if your wishes are known, but were not put into a will. For example, if you wanted your lackadaisical son to achieve academic excellence and earn a college degree before he received his inheritance, this must be stated in a will or trust. Otherwise, your son will receive his inheritance free and clear of any conditions.
- Establish custody: One non-financial benefit of a will is that you can identify your child’s guardian if they are still minors when you die.
Financial planning for kids requires discipline and planning. You’ll have to save for college, allocate funds to clothing and food, and plan for a great birthday party each year. However, once it is complete, you can feel confident that your kids will be taken care of.