Earlier this year, we posted an article on our website about the upcoming Trump Accounts for children. That post provided information on how these new accounts will work and how they compare to a traditional UTMA (custodial) account. Here, we’ll look at a means to use the Trump Accounts to your child’s advantage via a maximization technique.
While children born between January 1, 2025, and December 31, 2028, can qualify for the free, $1,000 seed funding in a Trump Account, parents (or family) may want to consider funding the account as well. The $1,000 from the government and any contributions made by an employer would be done with pre-tax dollars, and additional funding (subject to a $5,000 cap) is made with after-tax dollars. That $5,000 limit is not offset by the $1,000 seed funding. Since Trump Accounts can be opened for any child under 18, this provides a new and unique opportunity for all children.
With outside funding to a Trump Account made with after-tax dollars, there will be non-taxable basis built up within the account (similar to a non-deductible IRA). Whereas an IRA or Roth IRA would require the child to have earned income to establish and continue to fund the account, the Trump Accounts do not. Now, parents (or family) can help fund a form of retirement savings very early on and give the child a huge head start on their future savings. If the plan is maximized at $5,000 for say 15 years, that would be $75,000 the child would have for retirement savings before they’ve reached adulthood. If held to age 65, the future value of that $75,000 head start could be significant. Not requiring the child to have earned income is a big plus to these new accounts.
Funding the $5,000 of after-tax dollars through age 18 is something to consider for any child as we rarely see investors having over-saved for retirement. However, there are many important considerations. These include saving directly for college, having a custodial account (like UTMAs) and cash reserves, and the unique way Trump Accounts are taxed.
While any after-tax funds would be non-taxable upon distribution from a Trump Account, the earnings are taxed as ordinary income. After age 18, the full Trump Account could be converted to a Roth IRA, but that would trigger taxation of all the earnings and any other pre-tax funds.
Partial conversions are also permitted, and those would be taxed on a pro-rata basis. After reaching age 18, and if the young adult is in a low tax bracket, converting to a Roth IRA could further maximize their future retirement benefits (even after paying tax upon conversion). If you want to give a child a huge headstart on retirement, this new opportunity may be a great tool. We’re here to help, so please let us know of any questions. If you’d like to learn more about Trump Accounts and to register to open one, visit: https://www.trumpaccounts.gov.
