Balancing The Need For Savings And Investments To Support Your Child’s Future
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Ksenia Yudina, CFA, CEO and Founder of UNest.
Kids are expensive. From cradle to college, parents need to have their wallet and bank accounts available 24/7. To avoid financial stress and student loans, it’s critical that parents get ahead of the expense curve by saving and investing for their kids. So why do so few do it? It’s certainly not a lack of desire. Pretty much all parents want to do the right thing. Instead, it’s usually a combination of understanding and access. Understanding of financial basics—and access to good solutions that are easy to set up and manage.
Starting with the basics and some important starting questions. What’s the difference between saving and investing? What are the best options for families? How can young families contend with high inflation and economic uncertainty?
Having spent over 15 years in the financial industry, I realized that parents are often confused about the options they have, and I would like to break it down in the simplest terms.
Saving means putting away money for later use in a safe place, such as a bank account. Investing involves taking a risk by buying into assets that may increase in value over time and provide more money than initially deposited. When parents choose saving, that means either keeping money in the bank or putting it in a money market fund or a CD. This may be an attractive option in a period of rising interest rates. Parents can receive 4%-5% in certain financial instruments while assuming no risk.
The biggest benefits of savings are safety and liquidity, but there’s a downside. In high inflationary periods, parents actually lose purchasing power to stay in cash. Plus, it might be tempting to take money out for other needs than kids. Short-term priorities a lot of times seem more important, and liquid instruments provide the false sense that money that you’re saving for children is available for spending.
Investment on the other hand involves buying ETFs, mutual funds or simply investing in the portfolio of individual stocks or bonds. This strategy entails higher risk but has much greater opportunity for capital appreciation. Prudent investment strategies historically resulted in 6%-10% annual investment returns, with a caveat that past performance is no guarantee of future results.
Although it may sound complicated, you don’t need the help of a financial advisor to get started. There are two great account types, 529s and UTMAs, that make investing easy for parents. Based on a series of questions, you will be allocated the right portfolio that suits your risk tolerance and time horizon. On top of investment returns, these two custodial accounts provide great tax advantages that are not available for savings accounts. Investing is more applicable for parents who are aiming to build long-term wealth for their children and are committed to keeping money in the account for several years. When investing, it’s important to stay in the market for a long time and not react to short-term market fluctuations.
Whichever direction you choose it’s important to also consider all your financial obligations. Saving for kids is usually an absolute priority for parents, but don’t ignore the need to set up an emergency fund as well. Give consideration to other aspects of your financial life. Do you have a balance on your credit cards? Are you paying off your own student loans? Be realistic about what you can and can’t accomplish in the short term, but set a plan in motion that builds good money habits. That should include putting at least some money aside to save and invest.
The reason so few parents are saving and investing for their children while understanding the importance of it is that it can be quite intimidating. It’s particularly overwhelming for young parents that are wrestling with their new responsibilities. Hopefully, this article demystifies the options and makes it a little easier to jump in and make choices that will help you build a better financial future for parents and kids alike.
To summarize, both saving and investing are viable strategies for parents looking to save for their children’s future. Saving may be more appropriate for parents who are looking for safety and liquidity. Investing may be more suitable for parents who are looking to generate higher returns, beat inflation and access tax advantages. Many consider interest-bearing CDs and money market accounts during rising interest rates and high inflation. Those choosing investing instruments often look at custodial accounts that offer tax advantages like 529s and UTMAs.
Overall both saving and investing are critical strategies to set your children up for a successful future. The choice between the two depends on your family’s risk tolerance and long-term goals.
The information provided here is not investment, tax or financial advice. You should consult with a licensed professional for advice concerning your specific situation.
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