Every parent believes their child is a star. But what happens if they become a child star? Or simply happens to earn or even inherit enough money that would break a piggy bank?
One parent recently asked Reddit what he should do with the money his daughter is earning from her role in a touring production of a Broadway play. She’ll make $1,200 for four performances, he wrote: “$1,200 is not life changing but I see more gigs coming her way in the future,” he said. “She really loves performing. I want to have her money saved for her in the most responsible way I can.”
Some kids make big bucks. During a Television Critics Association panel in Beverly Hills last week, Mark-Paul Gosselaar, who played Zack in the 1990s sitcom “Saved by the Bell,” shared the stage with his 11-year-old co-star Saniyya Sidney. They’re starring in the new Fox FOXA, +0.74% drama series “The Passage.” Gosselaar said he was reminded of his own days as a child star.
Also see: 5 mistakes parents make when giving kids an allowance
But more minors are making names for themselves on social media. A 6-year-old GOOG, +0.40% millionaire called Ryan recently landed his own toy line at Walmart WMT, +0.79% called “Ryan’s World.” He currently has a YouTube channel called Ryan ToysReview, which has more than 15.4 million subscribers.
So what can parents do when their kids are earning the big bucks? If parents aren’t high-earners and the child starts to earn a substantial amount of money, Michelle Fait, a financial adviser and founder of Satori Financial in Seattle, recommends sitting down with a Certified Public Accountant or attorney “to understand how best to protect those funds.”
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What else should they do?
Think long-term — like retirement
Most advisers suggested the best thing parents could do is set up a Roth individual retirement account. Children can contribute the lesser of earned income for the year or $5,500. Minors have the option of investing in a traditional or a Roth account. However, the latter allows withdrawals on the amount contributed for a first-home purchase (up to $10,000) or education.
There’s a five-year rule before these withdrawals are acceptable without a penalty fee, but that likely won’t be an issue, said Matthew Gaffey, senior wealth manager at Corbett Road Wealth Management in Potomac Falls, Va. You can contribute to Roth IRAs with after-tax dollars. Because they don’t reduce your gross income or tax bill, withdrawals are tax-free.
They also have the benefit of compound interest. That is, interest on the interest earned as well as the capital. Think of it this way: If a 10-year-old contributed $5,000 to a Roth IRA that invested in a stock fund or exchange-traded fund averaging 7% per year, she would have almost $150,000 by the time she turns 60, said Mark Beaver, a financial adviser at Keeler and Nadler in Dublin, Ohio.
Stashing away money in a retirement account also teaches them the benefits of delayed gratification, Gaffey said. “You’re doing both your kids and yourself as a parent a service if you’re taking steps to better them,” he said.
Consider a 529 plan
College is also a major expense and the sooner you plan for it, the better. If you put away $250 a month in a college savings account with a 4% return from birth to age 17, it would grow to more than $73,000 by the time your child was ready to go to college. Student-loan debt in the U.S. currently exceeds $1.5 trillion.
Know the tax rules
The Reddit poster asked if his child has to pay income tax. Child earners may need to file a tax return, but they’ll likely have their parents helping them do so. Children don’t owe the government any taxes on the first $12,000 in wages, unless they have income from other sources that would push them above that threshold.
Parents with small businesses may also take advantage of this rule by hiring their children to work for them. They could get a tax deduction, which would reduce their federal income tax bill, self-employment tax bill and state income tax bill.
Also see: How helping your adult children financially can end up hurting their career
Talk to them about it, no matter how old they are
Parents can instill the values of saving, spending and giving to charity in children at a very young age, Fait said. Older children may want to make their own decisions based on those early discussions. “It’s just a way of starting the conversation,” Fait said. “They may have ideas about how to spend money and that will vary based on age.”
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