What If Your Kids Had Their Retirement Funded Before They Finish High School?

In a previous post, I shared some details about how we’re getting our kids involved in investing. At ages 9, 12, and 14, they’ve long had savings accounts and several years ago invested in their first stock. But now we’re dialing things up by switching to a broker that’ll better serve their long-term needs, being more intentional about their investment strategy, and setting targets for how much to invest.

A better broker

They now have custodial taxable and Roth accounts at Fidelity. They used to have accounts at Capital One, but that’s only because of a promotion the company offered in which they each received $50 for opening an account. Longer term, Capital One didn’t offer a very extensive list of investment options and charged somewhat higher fees.

The strategy

As I shared before, I’m encouraging our kids to follow the Sector Rotation strategy offered by my day-job employer, Sound Mind Investing.

As a high-risk/high (potential) return strategy, we typically recommend only using Sector Rotation with a small portion of your portfolio. However, our kids are super young, so we’re going all-in with the strategy. They understand it has had one-year losses of as much as 31.5% (in 2008, when the U.S. stock market fell even more). However, its average annual return for the past 20 years is over 15%.

Originally, I thought I’d start them with a small-cap value fund, switching to the current recommended Sector Rotation fund when they had enough money for the minimums. However, at Fidelity, exchange-traded funds can be purchased in fractional shares with as little as $1. When a recommended fund is a traditional mutual fund with a high minimum, they’ll use the highest momentum ETF in the Sector Rotation fund universe.

Gaining access to the Sector Rotation fund recommendations requires a Sound Mind Investing premium membership, which costs $169.50 per year. If you don’t like that idea, you could adopt a form of a similar plan suggested by advisor Paul Merriman, which calls for the use of a small-cap value fund. That would be somewhat easier because you never have to change investments, but the returns have been lower than those generated by Sector Rotation.

How much to invest

While this is somewhat arbitrary, the example I’ve used with our kids assumes a goal of having $3,000 invested by the time they’re 18. If they have that much in their investment accounts by then, and if the strategy continues generating an average annual return of 15%, they would have nearly $7 million by the time they’re 70. And that assumes they don’t add any more to their accounts. (You can run some calculations with different variables with this calculator.)

Eventually, as they earn more of their income (as opposed to receiving it via an allowance or gifts), their taxable accounts are being converted into Roth IRAs. That way, when they want to start tapping their money in retirement, it’ll be available to them tax-free.

In essence, their retirement could be handled before they graduate from high school, freeing them to use other savings and investments for other purposes, such as increasing the amount they give, buying a house, etc.

Some of the challenges

While I might get excited about the seemingly crazy idea of having retirement taken care of before they finish high school, the long time frame for this goal definitely puts a bit of a damper on their excitement. They’re onboard, but still, a goal that’s set so far into the future seems pretty abstract. We may have to keep selling the benefits.

Another potential issue is that having the money in a Roth IRA means they’ll be able to withdraw the contributions at any time for any reason penalty-free, and they’ll be able to withdraw earnings for certain uses, such as a fist-time home purchase or education. At age 18 (21 in most other states), they will gain full control over the money.

We’ll just have to do our best to encourage them to leave the money alone for their later years.

Keys to success

Ever since they could count, we’ve taught our kids to give at least 10% of every dollar they receive to God’s work. We’re also encouraging them to save or invest 50%. That should help them get to the goal of having $3,000 in their investment accounts by the time they’re 18.

After they finish college, begin their first full-time job, and have to pay for many things they don’t have to pay for now, their saving/investing percentage will probably have to decrease to 10-15% as the spending percentage increases to 75-80%.

Keeping their spending under control will be essential if they are to continue giving generously and saving or investing a healthy portion of their income. Very soon, one of the biggest threats to such giving and saving/investing goals will be car ownership. The problem with cars is that they eat—gasoline, insurance, maintenance, repairs, fees, and more. With all the money cars consume, it’s tough to save.

So, already I’ve been talking to them about the wisdom of holding off on buying a car at least until they’re out of college.

In my work, I read lots of articles about money and I’m constantly reminded about what a struggle it is for many people to build a sufficient nest egg for their later years. The possibility that our kids could have that issue handled before they’re even out of high school is pretty exciting to me.

What do you think of these ideas? What questions do you have?