How to Invest When You're Young

How Custodial Accounts Work

A parent or guardian opens a custodial account for you and then “gifts” funds into it. For 2021, up to $15,000 can be gifted into a custodial account.

Once the funds are in the account, you can begin investing the money. Of course, your parent or guardian will have to make the actual trades for you. They will retain management control over the account, and as a teenager, you aren’t allowed to contact the account broker to execute your trades.

However, you can be part of the investment process. You can create a portfolio allocation and select asset classes and even specific investments.

Once you reach the legal age in your state, the account’s ownership will convert to you. Usually, this age is 21 years old. With the experience that you hopefully gained through the custodial arrangement, you should fully manage the account going forward and can decide what to do with your existing portfolio and future investments.

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Custodial Accounts

A custodial account allows a legal guardian to administer investments for their children. While a minor can run the account, their parents are in full control. Once these children become 18-years old, ownership transfers to them directly. The fund is entirely theirs, without any hassle or fees. Until then, every investment is made through these accounts, under parental guidance.

The main purpose of custodial accounts is to teach children how to get started with investing stocks. They need to learn how the stock market works since it can be a tricky process. The minimum requirements of online investments include persistence and patience, which children need to learn early on. Short attention spans can get in the way of investing, so use this as a learning experience.

Such a brokerage account allows teamwork to take place, especially with trading companies and brokers. Children get to understand why investors work together to maximize profits. Shared accounts also deal with mutual funds, which are pooled money from shared investors.

Children not only invest in stock with their family but also other people. It's an entire market built on investing trust and confidence. There are restrictions in place, so children cannot just decide which stock to invest in without permission. Parental control is a safeguard to online investment. In a way, they act as a personal broker for their children.

Within a specified amount, the account offers a tax-free stock investment. UGMA provides several key advantages for minor investors. Below are the most important ones to consider:

  • Commission-free investments

  • Lower tax rates for the account

  • Full asset control with the funds

Bottom Line

Opening a brokerage account is limited to adults at least 18 to 21 years of age, depending on the state you live in. However, young people do have alternatives if they’re parents are willing to get involved.

Custodial vehicles like UTMA or UGMA accounts allow parents to fund investments for their children or other beneficiaries. Or you could open a 529 or Coverdell plan for education savings. 

But until you’re of legal age, investing in stocks isn’t permitted. Your parent or legal guardian might let you direct the investments inside a custodial account once it’s funded, but the account will remain in your guardian’s name.

If you’re under 18 and want to practice trading, many great simulators and paper trading programs exist. By getting a headstart on your trading education, you’ll be ready to hit the ground running once you’re old enough to trade.

Beware Of Potential Risk

Whenever investors try their hand in standard brokerage, there is always a financial risk to their funds. The market can be unpredictable due to interest rates. Company value is volatile and can fluctuate for one reason or another. It can be difficult to deal with such a trading risk since it can happen at any time. For example, a business scandal can bring down their value.

Remember – kids are not old enough to understand high levels of investment. Only through experience can they get used to investing in stocks. Every parent should guide them along as they manage accounts together. It's also a good way to build effective bonds with one another.

4 Traditional Brokerage Account Alternatives

Kids can’t open traditional brokerage accounts, but there are still plenty of ways to start investing for the kids in your life.

Custodial brokerage account

A custodial brokerage account is one of the best ways to invest for a child you care about.

There are two types of custodial brokerage accounts: UGMA (Uniform Gifts to Minors Act) accounts and UTMA (Uniform Transfers to Minors Act) accounts. The two are very similar; the main difference being in the types of assets they can hold. Both are perfectly suitable for most families.

Custodial brokerage accounts can hold many different types of assets, including stocks, bonds, mutual funds, index funds, insurance policies, annuities, and cash.

Any adult can open this type of account for a child. The adult that manages the account is the custodian. The ability for other loved ones to contribute will depend on the platform you’re using. With EarlyBird, once the account is open, all of the loved ones in a child’s life can easily contribute through the app. 

The money within a custodial account can be invested in stocks and other types of investments, so that it can grow throughout the child’s life.

No matter who manages the account and who contributes, the money in the account belongs to the child. Contributions to this type of account are irrevocable gifts, meaning parents and other adults can’t just take them back.

Once the child reaches adulthood, they take full control of the account and can use the money for any purpose.

If you’re looking for a custodial brokerage account to invest for your child, EarlyBird might be the right choice.

EarlyBird provides a simple way for loved ones to set up an UGMA account for a child. Then, everyone in the child’s life can collectively invest in their future by contributing to the account.

EarlyBird makes it easy to decide on your investment strategy. The company offers five ETF portfolio options that range from conservative to aggressive. The custodian can also choose to invest up to 5% of the child’s portfolio in values-based funds, investing in companies that support important causes.

Once the child reaches adulthood, the money will be there waiting for them, ready to help fund their goals and dreams.

529 plan

A 529 plan is a type of investment account intended to save for education expenses. These accounts come in two different forms. 

The first is a prepaid college plan where parents can lock in the price of college and pay in advance. The other is a college savings plan where parents can invest to grow funds for their child’s education.

529 plans come with tax advantages that make them attractive to families. The money in the account grows tax-free. And as long as you spend it on qualified education expenses, there are no taxes on your withdrawals.

The downside of 529 plans is that the money is intended for college-related costs. If your child wants to spend the money on anything that doesn’t qualify as an educational expense, they’ll pay taxes on the earnings, as well as a 10% penalty.

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Custodial IRA

Another option for investing for kids is to open a custodial individual retirement account (IRA). Families can invest in either a traditional IRA or Roth IRA as long as the child has earned income.

It might seem premature to start saving for retirement at such a young age, but ultimately it gives your child’s savings that much more time to grow and compound.

The downside of this type of account is that the money is intended for a very specific purpose. Your children will face many large expenses throughout their lives, and the money may be more useful before they reach their golden years.

Parent’s brokerage account

Parents also have the option of buying stocks for their kids in their own brokerage accounts.

In this case, the child doesn’t have any real ownership over that stock. You might have their future in mind when you buy it, but the stock isn’t in their name, and they have no legal claim to it when they reach adulthood.

The other downside of this route is that money earned in your brokerage account doesn’t come with the same tax advantages as UGMA and UTMA accounts, 529 plans, and custodial retirement accounts.

Other family members may also feel less comfortable contributing when the funds are in the parent’s name, rather than the child they want to give to. 

Alternatives to Standard Brokerage Accounts  

Options do exist to get around the 18-or-21 and up rule. Brokerages offer different accounts for minors that can be handled by parents or guardians until the proper age is reached. Here are few account choices to consider for underage investors. 

  • UTMA/UGMA Accounts – If you love government acronyms, you’ll love these accounts. UTMA stands for Uniform Transfer to Minors Act and UGMA stands for Uniform Gift to Minors Act, referring to the laws that made these accounts possible. Both accounts allow adults (usually parents) to transfer assets to minors without being taxed. UTMA accounts can be used for any type of asset, including property like real estate and cars. UGMA accounts can only hold financial securities like stocks and bonds. Once the designated minor comes of age, the account ownership transfers to them. Standard taxation rates will apply to any gains. 
  • 529 / Coverdell Plans – These accounts are college savings vehicles with tax breaks if used for qualified educational expenses. Like UTMA and UGMA accounts, an adult opens and funds the account for a beneficiary, usually a child. If you open a 529 or Coverdell, your withdrawals will be tax-free if the money is used for funding the college expenses of the beneficiary. Additionally, some tax deductions may be available for contributions, depending on which plan you open and which state sponsors it.

Things to Consider Before Choosing Your Brokerage

A brokerage is your ticket into the world of stocks. This means you need to be extremely careful in choosing the right one. Let’s go over some of the things you need to keep in mind before choosing your brokerage.

  1. Educational resources: If you are a beginner in the stock market, you will need as much information as possible. Most brokerages provide educational tools and resources for newbies. Find out if these resources are enough to get you started. If not, you might want to consider another broker.
  2. User interface: A chunky and glitchy platform can spell disaster for your hard-earned money. It is, therefore, essential that you find a platform that is smooth and easy to use. You can either check user reviews to gather this information or set up demo accounts to try the platform.
  3. Chargeable fees: This is the most important thing you need to consider in a brokerage. Most brokerages offer their services at a trading commission. Conduct some research on other fees that you might incur as well, such as real-time data fees, fees for options trading, and so on.
  4. Customer support: Since this will be your precious money that you would be dealing with, your brokerage must extend quality care and support to their customers.
  5. Minimum balance requirements: Most brokerages require you to keep a minimum balance in your account. Figure out how much you would like to invest, and see if you would be able to meet your minimum balance requirements or not. Keep in mind that you might be charged a fine if you cannot meet these minimum requirements.

Consider Taxes & Fees

Your account will not be tax-exempt. But it will be taxed at your tax rate. This is usually a good thing since you’ll probably have a much lower rate than your parents.

Here’s the tax liability if you’re under 19 years of age:

  • The first $1,050 of investment income is tax-free.
  • The next $1,050 is taxed at 10%.
  • Any income in excess of $2,100 is taxed at your parent’s marginal tax rate, which could be as high as 37%. This is what is often referred to as the “kiddie tax.”

A New Generation of Investors

The wave of youth in investing is finally here. And this is mostly due to the meteoric rise of cryptocurrencies and non-fungible tokens (NFTs). Moreover, investing has taken social media by storm. This has also led to a younger demographic of investors.

If you are new to investing, you may want to consider signing up for one of the best investment newsletters on the market. These FREE e-letters can provide you with daily stock tips, trends and expert analysis. This can be greatly beneficial for less experienced investors. Even more so during a time of high volatility and market uncertainty.

So how old do you have to be to invest in stocks? The age requirement is 18 years old in the United States, but custodial accounts are often overlooked by parents and guardians. You may want to consider these options for your children.

Can You Still Contribute to an Investment Account?

As a minor, you can’t own or operate your own brokerage account. However, you can gain access to the financial markets with the help of a custodial account.

A custodial account is a special type of brokerage account that’s owned by a parent or legal guardian of a minor. However, the assets within the account are legally held in the minor’s name until they reach the minimum age to begin investing.

With a custodial account, you can ask your parent or legal guardian to deposit your money and make trades on your behalf. You may dictate which assets you’d like to buy or sell to the custodian of your account, who is usually your parent.

However, your guardian must be the one administering the account and placing the orders. Once you reach your state’s minimum age to begin investing, you’ll be able to begin executing orders yourself and administrative controls will be passed to your name.    

How to Choose the Right Brokerage for You

Recent events have spurred many young traders into exploring investment opportunities, empowered by platforms such as Robinhood, a trading app that allows people with no prior financial experience to gain access to financial markets. 

Robinhood is designed to meet the needs of a younger audience of investors who are only getting started. Regardless, picking a platform that is right for you will give you the confidence to place trades, buy and sell stocks and generally benefit from the full functionality of that platform. So, where do you start?

  • Fees: The first thing to always look out for is fees. You must be fully aware of what fees will apply to the trades you make and stocks you buy and how your gains will be impacted in the end. There are various fees that apply, including trading commissions or real-time data fees, for example. It’s always good to learn about those and act accordingly. 
  • Accessibility: One of the reasons why Robinhood is so popular is its inherent ease of use. Making the user interface more accessible through apps is one of the best ways to involve traders and make sure they understand the platform in its entirety. Investors, regardless of their age, will always want to make sure the option they use is tailored to their specific needs.
  • Tools: Depending on how advanced of a trader you are, you will expect to see certain tools available. Tools mostly have to do with educating less experienced investors and catching them up on what they need to know. Resources such as Investopedia are great, but ideally, you want to have a comprehensive library of resources available in your brokerage app so that you can learn before you make a trade or buy a stock.
  • Balance: It’s always a good idea to be clear on how much you are willing to invest. Some brokerage firms may expect you to maintain a minimum balance that could be hard for anyone who has just turned 18 years, so make sure to factor this in when getting started and picking the right brokers. 

How to Invest Under 18: Investing as a Teenager

The best investments for a teenager will include a

The best investments for a teenager will include a combination of the most basic building blocks of any portfolio: individual stocks, mutual funds and exchange-traded funds (ETFs).

→ Invest in Mutual Funds

One of the disadvantages of investing in individua

One of the disadvantages of investing in individual stocks is that it’s extremely risky to put all of your money behind one or two companies. Individual stocks tend to be very volatile–meaning they can go up rapidly, but they can go down just as quickly.

A competitor might develop a superior product, or popular trends can pull people away from a company’s offering. And unless you happen to know the exact right time to sell your stock at the top (hint: nobody does), massive losses can erode your savings.

That’s why almost every investment professional will tell you to “diversify,” or spread your risk around many stocks and other types of investments. And one of the easiest ways to do that is investing in mutual funds.

Mutual funds pool many investors’ money to purchase a basket of investments. A mutual fund might provide you with exposure to the performance of 30, 300 or 3,000 stocks. Or it might invest you in bonds, real estate or other assets–or even a blend of stocks and these other assets.

Here’s the benefit: Let’s say a company represented by one of the stocks in the mutual fund’s portfolio goes bankrupt, and the stock goes to zero. If you had all of your money invested in that stock, you would lose all of your investment.

But by diversifying your risk across, say, hundreds of stocks in that mutual fund, you’re likely to only lose a small fraction of your investment–and in fact, the other stocks might perform so well that the impact of the bankruptcy is entirely erased!

Most mutual funds are “actively managed,” which means there is a single fund manager or a team of fund managers making investment decisions.

You can also benefit from the wisdom of expert fund managers. If you’re underage, you can have an adult open you an investment account for minors to buy shares in these investments.

You’ll also be able to buy other investments in this account as well, not just mutual funds. Consider opening a joint brokerage account with a company like Greenlight (covered more below).

→ Invest in ETFs

Exchange-traded funds accomplish a similar goal as

Exchange-traded funds accomplish a similar goal as mutual funds: providing instant diversification. But they have a few differences.

For one, mutual funds cost the same no matter what time of the trading session you order them. Their prices only change once per weekday: after the close of regular trading hours.

However, exchange-traded funds, as the name suggests, trade on exchanges just like stocks, and so their prices change all throughout the day.

While many mutual funds have a number of share classes with varying annual expenses, sales fees and investment minimums, ETFs don’t–an ETF has the same expenses for everyone, no matter where you invest in it, and the investment minimum is the price of one share. (Or, if you use a micro-investing app that offers fractional share investing, you can buy for as little as one dollar!)

Also, the vast majority of ETFs tend to be index funds, which means that rather than being managed by an individual or a team of humans, the fund instead automatically tracks a rules-based index (like, say, the S&P 500 or Dow Jones Industrial Average) by investing in the stocks that make up that index.

Because there are no managers to pay, index funds tend to be cheaper than their actively managed counterparts–meaning you keep more of your returns. (Note: Indexed mutual funds exist, too, but as a rule, a much higher percentage of ETFs are indexed.)

One low-maintenance yet effective long-term investing strategy relies heavily on exchange-traded funds.

These help defray risk by providing instant diversification, charge lower annual fees on average than mutual funds, and offer a wealth of strategies that mutual funds can’t match.

Also like stocks, ETFs can pay dividends, and you can compound both the fund returns and the income over the long haul–another great feature that makes them such a great investment option for teenagers.

(Tax tip: These dividends often count as qualified dividends, which generally are taxed at a lower rate than ordinary income!)

And remember: ETFs are typically every bit as “liquid” as stocks, meaning they’re very easy to sell when you’ve reached your predetermined savings goal.

(Another tax tip: If you sell ETFs–or stocks, mutual funds and other types of investment vehicles, for that matter–within a taxable brokerage account, you could be on the hook for capital gains taxes. Or, if you’ve had a bad year and are selling at a loss, you could actually save on your taxes!)

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