How to use a savings account to teach children how to save money
How compound interest can benefit a child's savings
The differences between the most common types of custodial accounts
Saving: It’s one of the most important money lessons kids can learn, right? But once you’ve taught your kids to set aside part of their allowances, what do you do next? How do you teach online banking to little ones?
You may want to consider opening a savings account to unload their bursting piggy banks. In this piece, we’ll help you target the best kids’ savings accounts and answer some other questions you may have about opening an online savings account for your child.
What is the best kids’ savings account?
Typically, minors (usually those under 18) cannot open a savings account by themselves, but you can open a child savings account and designate it for your child. Since you’d have authority over the account, you can manage their account and use it as a tool to teach them the ins and outs of saving money.
You can open a child savings account in your name and designate it for your child. Since you’d have authority over the account, you can oversee deposits and withdrawals and use it as a tool to teach them the ins and outs of saving money.
There are a few things to consider when you’re looking for the best savings account for kids:
Security: Teaching your child to put away a few coins in their piggy bank is a great start, but opening an online savings account is a great way to keep your child’s money secure. It makes sense that a savings account at a bank is generally safer than a jar on a bedroom shelf but be sure to choose a Federal Deposit Insurance Corporation (FDIC)-member bank like Ally Bank. (Kids’ funds should be protected in more ways than one, including from sticky-fingered siblings). Deposits in FDIC-member banks are insured up to the maximum amount allowed by law.
Interest: A savings account should also earn interest. The earlier your child starts saving in an interest-bearing account, the more it can build, thanks to compound interest. Compound interest allows you to earn interest on the deposits you make, as well as on the interest your money already earned. The more often the interest is compounded, the better.
As you compare savings accounts for children, look at the interest rates offered by different banks. Savings accounts from online banks, like the Ally Bank Online Savings Account, tend to offer more competitive interest rates than traditional brick-and-mortar banks. That’s because online banks usually have lower overhead expenses.
Even if you only see a small difference in the interest rate offered by different banks, the amount you earn in interest could differ greatly because of compound interest. Annual percentage yield (APY) offers a more accurate comparison when shopping for deposit accounts because it accounts for the interest rate and compounding periods. The more frequently interest compounds, the more you can earn. Ally Bank compounds interest daily.
Also consider minimum balance requirements, account access, potential fees, and website usability. Do a little research to find the best savings account and adapt it to the needs of you and your child from there, perhaps with a custodial account, UGMA, or UTMA (more on these types of accounts below).
What is a custodial account, UGMA or UTMA?
Custodial accounts name an adult as the “custodian” of the funds in the account — this type of account makes up the majority of accounts opened for the benefit of minors. The most common types of custodial accounts are known as Uniform Gift to Minors Act (UGMA) or Uniform Transfer to Minors Act (UTMA). The money in these accounts is the property of the minor but is managed by the adult custodian, who has the ability to make withdrawals and deposits on behalf of the minor account owner.
When the minor reaches the legal age of majority (which differs by state), the funds are turned over to them. Whether you set up a UGMA or UTMA depends on individual state requirements. Basically, if you set up a UGMA or UTMA savings account for your child, they should gain full access to the money when they become an adult, as defined by each state.
You can also open a custodial account through a brokerage likeAlly Invest. With a custodial account, you can gift stocks, mutual funds, and bonds to your child to help them pay for college or start saving for retirement. Over time, the funds in a custodial account could grow, thanks to investment returns or reinvested dividends.
Should you use a kids’ savings account to save for college?
You can use a kids’ savings account to save for college, but there are many other tools designed for this long-term savings goal. For example, certain investment tools such as a 529 plan or Coverdell Education Savings Account (ESA) may provide better potential returns and depending on when you open the account (such as when your child is born), these funds would have a long time to grow.
529 Plans: 529 plans allow you to invest tax-free and can also be withdrawn tax-free as long as you use them for educational purposes. This means you must use the money for tuition, books, room, board and other education expenses. It’s a good idea to take a look at risk, growth potential, fees, and other costs. You’ll get hit with penalties if you don’t use the money for education (don’t use the money for a trip to Florida!). Also, if your child decides to pursue a future that doesn’t involve college, you can change the beneficiary to a qualifying family member.
Coverdell Education Savings Accounts (ESAs): ESA contributions are made after-tax and grow tax-free. However, ESA contributions are capped at $2,000 annually and have income limits. You can only contribute to an ESA until your child turns 18 — after that, you’ll pay an added excise tax. You must also use the money before your child turns 30, or you’ll have to pay a penalty tax on what’s left in the account.
You can consider other ways to leverage your money by learning how to start saving for college.
Can you put a kids’ savings account into a trust?
A Trust is a powerful estate-planning tool to manage assets and provide detailed instructions on how and when to distribute any assets owned by the trust, which would need to be established with a legal professional (typically an estate planning attorney). Keep in mind that trusts are generally established as part of an estate plan, so you may have to take into account additional considerations if you’re looking into trust options.
A trust can be the custodian on a child’s account, but a legal professional can also help you outline the best tools for your particular goals. If you set up a trust with your child as the beneficiary, you can generally outline when and how they gain access to the money in the account when you establish the terms of the trust.
Can I open a joint account with a child?
The short answer: It depends. Some states do offer account options where minors can have equal access to a joint account under certain circumstances. The final word is usually left up to each individual financial institution.
If your goal is to open an account for your kid to use (for making withdrawals or with a debit card) you might consider opening a joint checking account — if your state allows it. This could be in the form of a student checking account, youth savings account, or a standard checking account. Joint accounts typically require one adult to serve as the primary account holder.
Just remember, joint accounts give equal access to all account owners, so the minor has full access to the money in the account. You may want to keep an eye on the activity and work on money management skills with your child.
At Ally Bank, minors cannot be joint account owners, but we do offer custodial account options. We’re happy to discuss our custodian account options with you. Call 1-877-247-2559 or chat with us online at ally.com to learn more about accounts for kids and teens with Ally.
Do you pay taxes on children’s savings accounts?
Just like adults’ accounts, children may be taxed on interest earned in a savings account. Currently, if a child has more than $2,200 of unearned income, that money will occur at the parent’s tax rate or their own, whichever is higher.
How do I motivate my kids to save?
How do you motivate your kids to save? Simple! Involve them in the process.
A great way to begin is by helping them set financial goals. They don’t have to be huge — good savings goals for kids are small and achievable, like saving for a new outfit or toy. That way, they can see how their efforts pay off and they’ll be more excited to set future goals. As they continue to grow, you can encourage your kids to start establishing larger, more long-term goals, like saving for a week at summer camp, a down payment on a car, or a portion of their college tuition.
Then, keep your kids in the loop with the activity in their savings account and let them help manage the money and tracking their balance. Give your kids a task like keeping a running total or calculating interest earnings.
Not only will this help give them a feeling of ownership and financial responsibility over their funds (not to mention they’ll feel grown-up doing mobile banking on your phone), it is an opportunity to bolster theirfinancial literacy. Financial education is often absorbed through habits learned from parents, so modeling and guiding kids with smart financial behaviors can benefit them now and in the future.
Remember, you don’t have to wait for the online banking monthly statement to see progress. With a kids’ savings account, you’ll have 24/7 access, so you and your child can take a look whenever you want. Seeing that balance grow is the best motivation to save even more.
You can even use our buckets tool, a feature of Ally Bank’s Online Savings Account, to help them save for multiple goals at the same time within one savings account.