I have mentioned previously that I have a newborn nephew. In an attempt to be a good uncle (and because I’m in a better financial situation than the parents), I thought I’d start a fund for the young boy. It sounds like an innocent and simple goal doesn’t it? Well it turns out that if you want to do it right it is anything but easy.
My first thought was to give bonds – not Barry Bonds, but savings bonds. After all, for many years they’ve been the financial gift of choice. I decided against bonds based on a couple of factors. 1) The return on bonds seems to lag the overall stock market, and if he’s going to have this invest for a long time, I’ll take a little more risk to get more reward. 2) I cashed my bonds in to use for my first car – a fairly noble choice. However, I could have cashed them in to play Keno and lost all the money. I’d much rather give him something that’s guaranteed to help him in the future.
So I started to evaluate what kind of gift I could seriously give him to help him in the future. I even thought of somehow opening up a retirement for him and putting the money in there. It sounds silly, but imagine what you could do with 65 years in a Roth IRA. At 7% compounding interest (taking 10% and subtracting 3% for inflation), a $500 gift would be worth an inflation injusted $40,636 when he turns 65. How much do you think he’d love his uncle with that kind of head start? Alas I couldn’t find an easy tax-advantaged way for an uncle to contribute to a retirement fund on the behalf of his nephew.
In the end, I decided that investing in his education probably makes the most sense. The biggest question I had was how was I going to do that. There are numerous ways to invest in someone’s education. There are Coverdell ESA’s, 529 Plans, UGMA & UTMA Custodial Accounts for Minors, etc. It can make you dizzy just trying to decide amongst them. For my purposes it looks like the 529 offers the best way for contribute to his education.
However, since 529 Plans are set at the State-level and not the Federal-level, choosing the right 529 Plan is a study in itself. There are so many twists and turns in the 529 Plan maze that it requires it’s own post. This past weekend I did a lot of research on them. Tomorrow I will share what I’ve learned.
You can invest in any states 529 plan. There are three elite plans which are Utah, Iowa, and New York. Clark Howard also has an honor roll for 529s. You can check it out here
http://clarkhoward.com/shownotes/category/1/34/281/380/
[Editor’s note: Thanks Paul, I meant to end the article saying that tomorrow I’d go into 529 in greater detail. As a teaser, none of those three states made my top 2 choices.]
Starting retirement accounts for newborns (or any kid with no income) limits you to only variable annuities. Unfortunately, low-expense VAs from Fidelity and Vanguard have high minimums ($5K) which is steep even for generous aunts and uncles.
Teach him “finance” yourself. That’s the best gift of all.
Don’t set up a 529. I set up some custodial accounts at Sharebuilder and started investing in Vanguard Small-Cap Value ETF (VBR). You lose the tax advantage, but you gain some choice in (a) the investment and (b) the use of the money. My thinking is that it’s a semi-risky investment that might pay off big (in which case, great) or not, in which case no real loss. 529s are great for the mutual fund industry, but I’m still not convinced it’s the best way to save for children’s futures.
And frankly, at the end of the day I’d rather be handing my nieces and nephews part of their first home down payment than their tuition money. Student loans are still easy to come by. Loans for down payments are usurious.
Be careful with what you do. You may become an uncle more than once in your life. Whatever you do make sure it is repeatable for each niece and nephew.
Good advice. Las Vegas has set the over/under on the total number of likely nieces and nephews to two. Without giving away a lot of detail, my and my wife’s immediate family is quite small. Also I think they are starting to reach the age and point in their lives where kids probably are not likely to be in the picture.
Just coming from experience my friend :)
My sister’s second pregnancy resulted in twins. Of course we still had to treat each new nephew as we had our older neice. It was still a joy, but doubling the gifts (and every birthday and December) was initially a bit of shock.
Don’t do any of those things, invest your money for yourself, make as much as you can, keep it all. Then, when the time comes, you decide to give to the kid what you want him to have and for what purpose you want it to be used. You get all of the benefits and none of the drawbacks.
My grandson is 15, so I set him up a custodail account at Sharebuilder, not for college,not for retirement, but just to share time with him and hope that by the time he is 19, I will have done what was necessary for him to make the right decision. So far, I am making no progress, but we do have time. I only but 50.00 a month in, and 100.00 on birthdays and Christmas. My plan is for him to add any extra money he gets and wants to invest, that has not happend so far, but is a goal. We pull it up on the computer, look at the ETFs, he shrugs his shoulders and says something like ” I don’t understand all that” and after a couple of minutes we move on to somethingelse. Even with such small amounts he now has 4 Vanguard ETFs. Total Bond, Total US Stock, Dividend, and Foreign, pretty good diversification for a 15 year old, something to build on in the future by himself as he grows older. I won’t be out much if at nineteen he buys a motorcycle, and I am always looking for that break through moment when he actually finds it interesting.