NEW YORK (MainStreet) The other day we talked about how a young person can best handle earnings from a summer job, concluding that in today's low-interest world a simple checking account, chosen for convenience rather than interest earnings, would work well for cash likely to be spent within the next few years.
But what if a high school or college student is capable of setting money aside for the long term as in saving for retirement?
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Thoughts of saving for needs 40, 50 or 60 years in the future can make a teen or 20-something gag. But with the first true "earned income," as opposed to allowance or birthday gifts, comes the opportunity to open an IRA that could produce stupendous gains over such a long investing horizon.
The first objection: The young earner may want to spend the money or save for a more immediate goal, such as buying a car. But generous parents or grandparents (or anyone else, for that matter), can get around that by replacing money the young person contributes to the IRA.
That term "earned income" is important because IRA contributions cannot exceed the amount the plan beneficiary earns from a legitimate job. Parents cannot contribute on the young person's behalf. That's why it's nearly impossible to set up an IRA for an infant.
Earned income, for example, is wages reported on a W-2 form. A W-2 is not necessary, though, if good records are kept. The pay must be at a going rate. Parents, for example, cannot get away with paying their kid $1,000 a week to feed the dog. Investment gains do not count as earned income.