April is nationally recognized as Financial Literacy Month.
Financial literacy, and financial education as a whole, is an issue the two of us are incredibly passionate about. It's why we write this weekly column and do a weekly radio show-to help educate people about all facets of financial planning.
One aspect of financial literacy that's so important is actively working toward better financial wellness. There's a number of ways you can accomplish this task, including obtaining education that can boost your lifetime earnings potential or paying down costly consumer debt. The most common way people work toward the goal of greater financial wellness is by saving for the future.
While we often say that it's never too late to begin saving for retirement, it's also true that the earlier you can start, the better. With that in mind, here's what you can do to help the young people in your life begin saving for their financial futures.
Maximize Compound Interest Via a Roth IRA
ADVERTISEMENT
We typically refer to young people as being "rich in youth" because they have so much potential growth available to them via compound interest. Imagine you're 15 and are able to contribute $1,000 to a Roth IRA. If you earn a hypothetical 7 percent rate of return, that single $1,000 contribution will be worth nearly $29,500 when you turn 65.
Now imagine you wanted to wait until you graduated college at 22 before making that $1,000 contribution to a Roth IRA. Assuming the same 7 percent rate of return, you'd have about $18,300 at age 65-a more than $10,000 difference by waiting just seven short years to begin saving.
The best way to fully utilize this power of compounding is for young people to invest inside of an IRA. By using an IRA, it allows you to achieve tax-deferred growth, meaning there's no tax drag on your gains that limit your investment growth. We typically advocate that young people use a Roth IRA rather than a traditional, tax deductible IRA, because Roths are more advantageous the lower your current tax bracket. Young people pay potentially very little (or possibly zero) in taxes, making the tax deduction relatively invaluable.
In order to be eligible to contribute to an IRA, you need to have earned income equal to the amount you contribute, up to a maximum of $5,500. This means that if you have $1,500 in earned income, you can contribute up to $1,500 to an IRA this year.
For young people, they generally don't have a lot of excess income. That's where parents and grandparents can come in to help. Sticking with our $1,500 example, you can gift a young person that $1,500 and they can use that money to fund a Roth IRA. Keep in mind
that if the recipient of the gift is a minor, they'll need a custodian to help them open the account and serve as a trustee until the minor reaches the age of majority (typically age 18).
Gifting money for retirement is one of the most precious gifts you can bestow on a young person. And while they may not fully see its value today, they'll certainly be thankful for that gift when they need it in the future.
The opinions voiced in this material are for general information only and are not intended
ADVERTISEMENT
to provide specific advice or recommendations for any individual. The hypothetical rate of return in the example is not representative of any specific situation. Your results will vary. The hypothetical rate of return used does not reflect the deduction of fees and charges inherent to investing.
