Minors under the age of 18 can't trade stocks in the U.S., but adults can invest on their behalf. Learn how old you have to be to buy stocks and how to invest for children.
Minimum Age To Buy Stock
In the United States, you have to be at least 18 years old to trade stocks and other investments, such as mutual funds and ETFs. However, someone of legal age can open a custodial account for the benefit of a minor.
State of residence does not change the age restriction for opening brokerage accounts to trade stocks and other investments in the U.S. Most other countries have similar age restrictions, requiring a parent, guardian, friend or family member to transact on behalf of the minor until the minor reaches the age of the majority.
Can You Buy Stocks for Kids?
Although kids under 18 are not able to open a brokerage account in the U.S., and thus are unable to trade stocks and other investments, an adult parent or guardian can open an account on their behalf. Fortunately, there are multiple types of custodial accounts that can be utilized.
4 Main Types of Custodial Accounts
The main types of custodial accounts for investing are:
- Custodial Brokerage Account (UGMA/UTMA)
- Custodial IRA (Traditional or Roth)
- Coverdell Education Savings Account (ESA)
- 529 Plan
1. Custodial Brokerage Account
Depending upon the state in which the account holder lives, a custodial brokerage account can be opened for a minor. This account will either be a Uniform Gift to Minors Act (UGMA) account or a Uniform Transfer to Minors Act (UTMA) account.
Although the account will initially be registered in the adult's name, the child will be able to take full control of it once he or she reaches age 18 or 21, depending on state laws.
Tip: The tax benefit of a UGMA/UTMA account can be substantial. Since the account is essentially owned by the child, investment earnings are generally taxed at the child’s tax rate, which is likely to be lower than the parent’s rate. More specifically, the first $1,050 in earnings are tax-free. The next $1,050 in earnings are taxable at the child's tax rate. Earnings over $2,100 are taxed at the parent's rate.
2. Custodial IRA (Traditional or Roth)
If a minor child has earned income, a parent or guardian can open a custodial IRA or a custodial Roth IRA on their behalf. Once the custodial account is open, the investment assets are managed by the adult until the minor reaches age 18 or 21, depending upon state laws.
- Custodial IRA: Works like a traditional IRA, where contributions are made on a pre-tax basis, which means that they reduce taxable income.
- Custodial Roth IRA: Works like a standard Roth IRA, where contributions are made on an after-tax basis. This often works best for minors, because it's generally more advantageous to make Roth contributions when the individual expects to be in a higher tax bracket when making withdrawals.
Taxation and benefits for custodial IRAs work similarly to standard individual retirement accounts. However, it's important to keep in mind that the child cannot contribute more than 100% of their income during any given taxable year. For example, if the child earns $2,000 with a summer job, they won't be able to contribute more than $2,000 for that year.
3. Coverdell Education Savings Account
Also called an Education IRA, a Coverdell Education Savings Account (ESA) is a tax-deferred education savings vehicle. An ESA can be opened by a parent or another immediate family member, such as grandparents, on behalf of a child beneficiary under the age of 18. Contributions can be invested in a variety of securities and growth is tax-free.
Withdrawals from an ESA are also tax-free when used for certain qualifying education expenses. Although multiple ESAs may be opened on behalf of one beneficiary, the maximum contribution for each beneficiary is $2,000 per year.
4. 529 Plan
Named for Section 529 of the Internal Revenue Code, a 529 plan is a tax-advantaged education savings vehicle sponsored by states. As long as the money stays in the account, earnings grow free of tax. Withdrawals for certain qualified education expenses may be tax-free at the federal level and, in some cases, free of state tax.
A unique advantage to the 529 plan is that there are no income restrictions to make contributions. As with other custodial accounts, a 529 plan account holder must be a U.S. resident, age 18 or over. The beneficiary of the 529 plan may be any age, as long as they have a Social Security number. Another unique aspect of 529 plans is that the account holder can be the same individual who sets up the account.
Tip: Although contributions to a 529 plan are not tax-deductible at the Federal income level, many states offer state income tax deductions or credits for contributions to a 529 plan. The amount of state tax deduction you may claim will depend on the state in which you live and how much you contribute to a 529 plan during a given tax year.
Considerations Before Buying Stocks for Children
Considerations to make before buying stocks for kids are best made around the type of account that will be used for investing. Since those under 18 can't legally open a brokerage account, a parent, family member, friend or adult guardian will need to consider which custodial brokerage account, custodial IRA, or education savings account works best for their needs.
Considerations for choosing the best type of investment account for kids under 18 are:
- Holding period: Stocks are suitable investments for long-term time horizons. A long-term time horizon is generally considered to be 10 years or more.
- College plans: If college is a future goal, education savings vehicles, such as the Coverdell ESA or the 529 plan can be considered. Keep in mind that a portion of qualifying education costs can be used before enrolling in college.
- Maximum contribution: Some custodial accounts have maximum contribution limits. For example, the Coverdell ESA max contribution is $2,000 per calendar year. Custodial IRAs have contribution limits of $6,000 per year or 100% of the child's income or wages, whichever is lower. However, there are no contribution limits for UGMA/UTMA accounts or 529 plans.
- Custodial IRA vs. Custodial Roth: These IRAs require that the child has earned income or wages during the year of contribution. Custodial Roth IRAs are generally ideal for kids, assuming that their income tax rate is lower at the time of contribution than it will be at the time of withdrawal.
- Tax benefits: Education savings plans (ESAs), such as the Coverdell ESA and the 529 plan, will provide valuable tax benefits for minors to use for certain qualifying education expenses. Both types grow tax-deferred. The traditional IRA requires tax-deductible contributions and taxable withdrawals, while the Roth IRA requires after-tax contributions and tax-free withdrawals at retirement. Earnings on investments held in UGMA and UTMA brokerage accounts are taxable at the child's income tax rate.
Since kids under age 18 are not able to legally open a brokerage account in the U.S., they won't be able to invest in stocks without the help of an adult. To invest for minors, an adult may open an investment account on their behalf. Account types for minors include custodial brokerage accounts, custodial IRAs, Coverdell ESAs, and 529 plans.
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