Grandparents often want to help give their grandchildren a financial head start. But the best way to do that is not always obvious.
With the introduction of Trump Accounts, families now have one more option to consider. That can be helpful, but it can also make the decision more complicated.
Suppose a grandparent wants to contribute $5,000 when a grandchild is born. Where should that money go?
The answer depends on what the money is meant to accomplish.
If the goal is college, a 529 plan may still be the first place to look. A 529 is specifically designed for education savings. Depending on the state and the program used, the contributor may receive a state tax deduction or credit. The money grows tax-deferred while invested, and if it is used for qualified education expenses, withdrawals can generally come out tax-free.
That can be a powerful combination. If a grandparent contributes $5,000 at birth and the account earns a hypothetical 9% annual return, that money could grow to roughly $23,600 by age 18. If used for qualified education expenses, the growth may come out tax-free.
The drawback is that a 529 is primarily built for education. If the child does not pursue college, or if the money is not needed for school, the family may need to consider other options. That could include changing the beneficiary, using the money for other qualified education expenses, or potentially rolling a limited amount to a Roth IRA if the account meets the applicable requirements.
If the goal is flexibility, a taxable custodial brokerage account may be worth considering. The money could eventually help with a first car, a first apartment, a home purchase, starting a business, or simply providing a financial cushion in early adulthood.
The tradeoff is tax treatment. A custodial brokerage account does not receive the same special tax benefits as a 529. Interest, dividends, and realized gains may create taxes along the way, and the kiddie tax could become a factor. However, long-term investment gains are generally taxed as capital gains rather than ordinary income, which may be more favorable depending on the child’s tax situation.
The other major drawback is control. Once the child reaches the age of majority, the money is theirs.
Trump Accounts sit somewhere in the middle.
They may offer tax-deferred growth and may be used for certain purposes, including education or a first-time home purchase. But tax-deferred does not mean tax-free. Withdrawals may still be taxable, and if the money is used for something that does not qualify for an exception, penalties may apply.
So the Trump Account may not be the cleanest choice if the real goal is college or short-term flexibility. Where it becomes more interesting is long-term wealth building.
If the same $5,000 stayed invested until around age 60, at a hypothetical 9% annual return, it could grow to roughly $882,000. By age 65, it could grow to roughly $1.35 million.
Those numbers are hypothetical, not guarantees. But they show the potential power of long-term compounding.
A Trump Account may be most useful when it is treated as a long-term wealth-building vehicle, not simply as money to spend at age 18. The challenge is that once the child gains control, they may use the money earlier. That may not be bad, but it could sacrifice decades of future growth.
Finally, once the child has earned income, a Roth IRA may become another powerful option. Contributions can generally be withdrawn tax-free and penalty-free, and qualified earnings may eventually come out tax-free as well.
The key question is not, “Which account is best?”
The better question is, “What is this money supposed to do?”
For college, consider a 529. For flexibility, consider a custodial brokerage account. For long-term compounding, a Trump Account may have a role. And once the child has earned income, a Roth IRA may become part of the strategy.
Helping a grandchild financially is a generous gift. Choosing the right account can make that gift much more effective.