Know someone who is graduating from college this year? Here are two ideas for gifts that can help your graduate build a secure financial future.
1 Contribute to their IRA.
Have you ever wished that you had begun saving for retirement earlier? Well, here’s your chance to help the graduate get an early start on saving for retirement by giving them some cash to fund a Roth IRA.
With a Roth IRA, contributions are not tax deductible, but investment earnings grow tax-free and can be withdrawn tax-free after the graduate reaches age 59½ and the account has been open for at least five years.1 Contributions can be withdrawn tax-free at any time.
With decades to go before retirement in which earnings can be compounding tax-free, your gift has the potential to grow significantly over time. For example, a gift of $6,000 (the maximum contribution amount for 2022) has the potential to grow to about $60,000 over 40 years, assuming a 6% annual return. And if the annual return turns out to be 8%, your gift may grow to about $130,000 over those 40 years.2
Roth IRAs have income limits so it’s a good idea to determine whether your graduate is eligible to contribute before pursuing this gift idea. To contribute for 2022, the graduate’s modified adjusted gross income (MAGI) for the year must be less than $144,000, assuming the graduate is single. If their MAGI is between $129,000 and $144,000, the maximum amount they can contribute will be reduced.
The maximum contribution amount for 2022 is $6,000, but keep in mind that the graduate cannot contribute more than their taxable compensation for the year. For example, if the graduate is single and earns $5,000 from employment in 2022, the most they contribute to an IRA for the year is $5,000.3
2 Make a student loan payment.
If your graduate has student loan debt, consider giving them some money to use for loan repayment.
The graduate could use your gift to make their first few loan repayments or they could direct the lender to have the whole amount applied to the loan’s principal, which may help reduce the interest they’ll pay over the life of the loan.
If you are making a large gift, keep the federal gift tax in mind. This year’s annual exclusion for gifts is $16,000, which means that you can give any number of people up to $16,000 each in 2022 without your gifts triggering the federal gift tax or using up any of your lifetime exclusion for federal gift and estate taxes.
If you still have funds in a 529 education savings plan for the graduate, up to
$10,000 of it can be withdrawn free from federal taxes and possibly state taxes to repay the graduate’s qualified student loans. In some states, withdrawals for loan repayments may be subject to state tax and the recapture of related state tax benefits. It’s a good idea to check the state tax treatment before making the withdrawal. ?
1 Earnings withdrawn before age 59½ and before the Roth IRA has been open for five years may be subject to ordinary income tax and a 10% early withdrawal tax penalty.
2 This is a hypothetical example for illustrative purposes only. Your results will vary. All investing involves risk.
3 A married individual who files a joint tax return and has little or no taxable compensation may be able to contribute to a Roth IRA based on their spouse’s taxable compensation.
With offices in Rutland and Williston, Vermont Copper Leaf Financial develops a customized wealth management plan designed to integrate every aspect of your financial life. Call us today at 802-878-2731 to schedule a strategy session and begin building your road map to financial success.
This article was published in the May/June 2022 issue of Eye on Money. If you would like to be added to our mail list please email [email protected].