The birth or adoption of a child is cause for celebration, but it also carries heavy responsibilities. In addition to protecting your child's physical well-being, you need to ensure he or she will be financially secure. Here's six steps to get your new addition started on the right track financially:
1. Make (or revise) your will. A will provides instructions on how your assets should be distributed and names a guardian for your child if you (and your spouse if you're married) were to die prematurely. To be on the safe side, name a backup in case your initial choice is unable or unwilling to serve as guardian or predeceases you (and your spouse if you're married).
Important: The beneficiary designations listed in your retirement plan and life insurance documents supersede what's stated in your will. Conflicts can lead to confusion, family turmoil and legal challenges. So it's important to coordinate your will with your life insurance and retirement account beneficiary designations.
2. Buy life insurance. Employer-provided life insurance usually isn't enough to cover the costs of raising a child. You also should consider the cost of college, your home mortgage and your spouse's living expenses. Parents often decide to buy additional life insurance coverage, beyond what's provided by their employer-provided policies. Remember that current stay-at-home parents may need life insurance to cover the possible cost of a full-time caregiver.
3. Update your beneficiaries. The disposition of retirement plans upon death, such as 401(k) plans and IRAs, is guided by beneficiary designation forms. It's important to update these forms to include your new child. You also should consider updating the beneficiaries for your life insurance policies. However, minors can't legally inherit assets. So consider establishing a trust and naming a trustee to ensure your child's financial needs will be met.
4. Apply for a Social Security number. You'll need your child's Social Security number to take advantage of tax benefits for parents with dependent children. Social Security numbers also are required to open a bank or investment account for your child.
5. Set up an education savings account. If you expect your child to attend college, you might consider building a nest egg now to help pay the mounting costs of a four-year degree. Section 529 college savings plans can help parents and children reach their education goals. Earnings on 529 plan contributions grow tax-deferred for federal income tax purposes. Withdrawals used to pay for qualified higher education expenses (such as tuition and fees and, generally, room and board) avoid federal income tax, making the tax deferral permanent. However, there's no guarantee a 529 plan will grow to cover all your child's college expenses.
Depending on the laws of your home state or on your designated beneficiary, favorable state tax treatment or other benefits offered by your state for investing in 529 college savings plans may be available only if you invest in that state's 529 college savings plan. Consult with your financial, tax or other advisor to learn more about how state-based benefits (including any limitations) would apply to your specific circumstances, along with the state tax consequences of any investment in a 529 plan.
6. Establish an emergency fund. If you don't already have a "rainy day fund," it's time to start one. Aim to save at least three to six months' worth of living expenses so that, if you lose your job or your child needs something you hadn't anticipated, the money will be available for immediate use.
Congratulations on the new addition to your family! Raising a child is one of life's most challenging — and rewarding — experiences. Start your adventure on solid financial footing. Contact your professional advisors to help set up your new child for a bright financial future and provide additional financial planning strategies as he or she grows.
Get in touch today and find out how we can help you meet your objectives.
