In the first installment of this series, we covered the UTMA and UGMA custodial accounts and how they can help you build wealth for your children with maximum flexibility. But what if your child has earned income? That opens the door to use the Individual Retirement Account (IRA). Using a custodial IRA gives your child access to the magic of compound interest, adding decades to their time invested in the market.

Let's break down how IRAs work for minors, the rules you need to follow, and when they make sense as part of your family's investment strategy.

A custodial IRA works exactly like a regular one, but it's opened and managed by a parent or guardian until the child reaches the age of majority (typically 18 or 21, depending on the state).

Custodial Roth - Contributions are made with after-tax dollars, meaning the money grows tax-free and withdrawals in retirement are also tax-free. This is the most common choice for children since they're typically in a low or zero tax bracket.

Custodial Traditional IRA - Contributions may be tax-deductible, but withdrawals in retirement are taxed as ordinary income. This is rarely the best option for children since they usually don't benefit from the upfront tax deduction.

For most families, the Roth IRA is the clear winner. Your child pays little to no taxes now, and decades of tax-free growth await them.

The most important rule to know: your child must have earned income.
This is the IRS requirement that separates IRAs from other custodial accounts.

What counts as earned income?

What doesn't count?

The amount your child can contribute is the lesser of their total earned income or the annual IRA contribution limit. For 2026, that limit is $7,500.

Example: If your 16 yr old earns $4,000 from a summer job, they can contribute up to $4,000 to their Roth IRA. If they earn $10,000, they can still only contribute $7,500 (the 2026 limit).

While the child must have earned the income to qualify for IRA contributions, the actual dollars deposited into the account can come from anyone, most commonly parents or grandparents. This flexibility allows the child to keep their paychecks for current needs while still building long-term wealth.

You must be able to prove the child’s earning at least as much as you're contributing. Keep tax documents like W-2s or records of self-employment income.

Like custodial UTMA/UGMA accounts, the parent or guardian manages the IRA until the child reaches the age of majority. At that point, control transfers to the child, and they can:

Unlike custodial accounts where the child can spend the money on anything once they take control, IRAs have restrictions. Remember, IRAs are still retirement accounts and are structured to benefit you the most when used for that purpose. Early withdrawals of earnings before age 59½ typically incur taxes and a 10% penalty, which discourages impulsive spending.

Roth IRAs offer more flexibility since contributions (not earnings) can be withdrawn anytime, tax-free and penalty-free.

The tax advantages of a Roth IRA are extraordinary, especially when started young:

Because most children are in a low or zero tax bracket, paying taxes now (via a Roth) instead of in retirement (via a Traditional IRA) is almost always the better deal.

The misconception is about IRAs is that your money is locked away until you’re older but utilizing a Roth for your child opens the door to more options that can benefit them before retirement. Roth IRAs allow for certain penalty-free withdrawals:

This flexibility means a Roth IRA isn't locked away forever. It's a multi-purpose tool that can help with major life milestones while still prioritizing long-term wealth.

Your child can contribute up to the maximum amount of $7,500 (for 2026) or 100% of their earned income, whichever is less.

There are also income phase-out limits for Roth IRAs, but these rarely affect children. For 2026, single filers can contribute the full amount if their modified adjusted gross income (MAGI) is under $150,000. Most working teenagers are nowhere near this threshold.

Remember: contributions must be made by the tax filing deadline (typically April 15 of the following year). You can contribute for 2026 up until April 15, 2027.

✅ Unmatched compound growth potential
A 15-year-old who contributes $7,000 once and never adds another dollar could see that grow to over $150,000 by age 65 (assuming 7% average annual returns).

✅ Tax-free growth and withdrawals
With a Roth IRA, every dollar of growth is tax-free. Over 50+ years, this can save hundreds of thousands in taxes compared to taxable accounts.

✅ Flexibility for major life events
Contributions can be withdrawn anytime, and earnings can be used penalty-free for a first home or education. The account serves multiple purposes.

✅ Built-in spending deterrent
Unlike custodial accounts, IRAs have early withdrawal penalties that discourage unnecessary spending.

❌ Requires earned income This is the biggest limitation. If your child doesn't work, an IRA isn't an option. You'll need to use a custodial account instead.

❌ Low contribution limits The $7,500 annual limit (for 2026) means you can't front-load large sums the way you might with an UTMA/UGMA custodial account.

❌ Child gains full control at adulthood Just like custodial accounts, the child takes over the account when they reach the age of majority. While early withdrawal penalties provide some protection, they can still access their contributions anytime.

❌ Penalties on early withdrawal of earnings While flexibility exists for contributions and certain life events, withdrawing earnings before age 59½ generally incurs a 10% penalty plus taxes. IRAs are designed to protect retirement savings, but it reduces short-term flexibility.

❌ Documentation required You must be able to prove your child has earned income equal to or greater than the IRA contributions for that year. Keep tax documents and income records to satisfy IRS requirements if questioned.

IRAs work best when:

For many families, the best strategy is to use both custodial accounts and IRAs together. Custodial accounts provide flexibility for any savings goal, while IRAs maximize tax-advantaged retirement savings when the child has earned income.

Both account types serve important but different purposes:

Custodial UTMA/UGMA accounts offer maximum flexibility. No earned income requirement, no contribution limits, and funds can be used for any purpose that benefits the child. However, they lack tax advantages and offer no protection against spending once the child takes control.

IRAs require earned income and have contribution limits, but they offer unparalleled tax benefits and long-term growth potential. The early withdrawal penalties act as a natural safeguard against impulsive decisions.

IRAs for children are one of the most powerful tools for building generational wealth, but they require one critical ingredient: earned income. If your child works, even part-time, opening a Roth IRA should be a priority. The decades of tax-free growth ahead of them are simply too valuable to ignore.

Just like with custodial accounts, money alone won't secure their financial future. Pair the investment with education. Teach them about compound interest, the importance of staying invested through market ups and downs, and the discipline required to let long-term investments grow.

In the next installment, we'll explore 529 education savings plans and when they make sense as part of your child's investment strategy.

In part 3 of the Investing for Your Children Series, we’ll discuss the perhaps the most flexible and beneficial account that parent scan use to build generational wealth, the 529 Plan. Most people don’t know that 529s can be used for just more than education. purposes,

Part 1 - Custodial Accounts UTMA/UGMA

Disclaimer: The contribution limits and income thresholds provided in this article are current as of the 2026 tax year. These amounts are adjusted periodically based on inflation and legislative changes. Always verify current limits when making contributions. This article is for educational purposes only and should not be considered personalized financial advice. Consult with a qualified financial advisor or tax professional for guidance specific to your situation.

Age of Majority by State