Roth Rules for Kids

Opening a Roth IRA for your children is a great idea, but they must have earned income from a job -- allowances don't count.

-- Can I open a Roth IRA for my child if I pay him an allowance to do chores around the house?

-- We are paying our eldest daughter to teach weekly piano lessons to her two younger sisters. Can we keep a record of the money we have paid her and match that amount in a Roth IRA for her?

No to the first question, yes to the second.

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Opening a Roth IRA for your child is a great idea (see Why Your Kids Need a Roth IRA to learn more). But you can't open one unless your child has earned income from a job. And giving your child an allowance in return for doing chores around the house doesn't count as earned income.

It's legal to hire a child to do a specific job in your home. But there's a fundamental difference between, say, a domestic employee who regularly cleans your house and a child who is asked to make his bed.

On the other hand, hiring your daughter to teach weekly piano lessons would likely pass muster with the IRS. But your instincts are correct: Your daughter would have to do the job on a regular basis and you'd have to keep meticulous records of the money you paid her.

Income from a steady job such as babysitting or lawn mowing also counts as earned income. But it's preferable if your child works for a family other than your own. And whenever kids don't get a Form W-2, they should keep a record of the date of each job, the person who employed them and the amount they earned.

If you own your own business, you can employ your children, pay them salary and open a Roth IRA on their behalf. But the kids must be doing real work, and you should pay them a reasonable wage. Pay their salary with a check drawn on a business account, and file a Form W-2 reporting the kids' earnings to the Social Security Administration.

The toughest thing about opening a Roth for a child may be finding someone willing to take the money. Mutual fund companies and others may be reluctant to open an account for a child because minors can't legally enter into binding contracts.

But many financial-services companies are willing to open IRAs for kids. Among them are Merrill Lynch, Charles Schwab and TD Ameritrade, and the American Century, T. Rowe Price, Strong and Vanguard mutual fund families.

Janet Bodnar

Janet Bodnar is editor-at-large of Kiplinger's Personal Finance, a position she assumed after retiring as editor of the magazine after eight years at the helm. She is a nationally recognized expert on the subjects of women and money, children's and family finances, and financial literacy. She is the author of two books, Money Smart Women and Raising Money Smart Kids. As editor-at-large, she writes two popular columns for Kiplinger, "Money Smart Women" and "Living in Retirement." Bodnar is a graduate of St. Bonaventure University and is a member of its Board of Trustees. She received her master's degree from Columbia University, where she was also a Knight-Bagehot Fellow in Business and Economics Journalism.