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Give The Graduate a Gift of a Roth IRA

By Beverly DeVeny, IRA Technical Expert
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@BevIRAEdSlott

Still don’t know what to give the graduate in your life? If they have earned income for the year, give them a gift of a Roth IRA.

Let’s say you gave the graduate $5,000 cash. What is he or she going to do with it? It might go toward a car to get back and forth to work or to college, or perhaps toward their new work/school wardrobe. It could go toward the expenses of their first apartment. The one thing in common with all of these scenarios is that your gift is spent. It is gone. Even though those are worthwhile purposes, eventually the gift is gone. The car will be replaced, the clothes will wear out, or more likely go out of style, the graduate will move again. The gift is used up, it is gone forever.

Now consider opening a Roth IRA for the graduate and funding it with that same $5,000. You make it a super-secret Roth IRA so the graduate does not touch those funds. At age 65 the location of the account will be disclosed to the graduate. What does he or she have now? The account will be worth over $40,000 at a modest 5% annual rate of return. That’s $40,000 to help them get ready for retirement. And, it is all income tax free. Both the initial $5,000 contribution and all the earnings are income tax free. Now that is a gift!

Of course, the idea of a super-secret Roth IRA account is a fantasy. You will need the graduate’s cooperation in opening the Roth IRA account. If you open the account through a local bank branch, the graduate will have to sign the paperwork and will probably have to go there with their ID. IRA accounts can also be opened online. You will still need the graduate’s personal information to open the account. You can also use this as a learning experience on why you should NOT give out your personal information, even to a close family member. Finally, only the Roth IRA owner (the graduate) can make investment decisions for the account.

There is one big drawback to this idea. The graduate will have full access to the Roth contribution, tax and penalty free at any time. In actuality, there is no way to prevent him or her from taking the money out as soon as the ink is dry on their signature to open the account.

This idea will also work with a traditional IRA if you want the graduate to have the additional benefit of an income tax deduction for the IRA contribution. At age 65, the graduate will still have over $40,000 in his IRA. The only difference at this point is that it will all be taxable when it is taken out by the graduate.  

This is an opportunity to give the graduate a jump start on a lifetime savings program and on the importance of saving for retirement. In other words, it can be a valuable lesson on what it means to be an adult. You can receive more savings and stretching wealth strategies in Ed Slott's book, Fund Your Future.


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Posted in: beverly deveny, Roth IRA