How to Save Money for My Child: Key Options & Strategies

Saving money for a child’s future significantly impacts their long-term opportunities, especially with rising education and housing costs. Establishing a savings foundation early provides a strategic advantage, allowing contributions to grow via compounding. This alleviates future financial burdens, enabling children to pursue goals.

Understanding Dedicated Savings Options

Various financial accounts are designed for a child’s future. Understanding their features aligns them with financial goals.

529 Plans

Section 529 plans are education savings vehicles sponsored by states or educational institutions, offering tax advantages for education. Contributions grow tax-deferred, and qualified withdrawals are tax-free at federal and often state levels, if used for eligible educational costs. These plans cover expenses at accredited higher education institutions, vocational schools, and apprenticeship programs, including tuition, fees, books, supplies, equipment, and room and board. Since 2018, up to $10,000 annually per student can also be used for K-12 tuition, with additional K-12 expenses like curricular materials, tutoring, and exam fees qualified from July 2025.

There are two primary types of 529 plans: savings plans and prepaid tuition plans. Savings plans operate like investment accounts, where contributions are invested in portfolios that can fluctuate with market performance. Prepaid tuition plans allow purchasers to lock in future tuition at current rates for participating colleges, typically state public institutions, though they generally do not cover room and board. Account owners, usually parents or grandparents, maintain full control over funds and can change beneficiaries without tax consequences. Contributions exceeding the annual gift tax exclusion amount—$19,000 for individuals or $38,000 for married couples in 2025—may have gift tax implications, though a special rule allows for a lump sum contribution of up to five times the annual exclusion, spread over five years.

Before opening a 529 plan, compare plans from different states, as some offer state-specific tax deductions or credits for contributions, even if you are not a resident of that state. Evaluate the investment options, fees, and past performance of the plan’s underlying funds. Understand the definition of qualified expenses for federal and state tax purposes.

Coverdell Education Savings Accounts (ESAs)

Coverdell Education Savings Accounts (ESAs) are dedicated savings vehicles for education, offering tax-free growth and withdrawals for qualified costs. Unlike 529 plans, Coverdell ESAs have a lower annual contribution limit, capped at $2,000 per beneficiary across all accounts in a given year. Contributions are not tax-deductible, but earnings and withdrawals are tax-free if used for eligible expenses.

Coverdell ESAs offer broader eligible expenses than 529 plans for K-12 education, including tuition, fees, books, supplies, equipment, academic tutoring, and special needs services. For higher education, they cover similar costs to 529 plans, such as tuition, fees, books, and room and board. A key distinction for Coverdell ESAs is their income limitations for contributors; eligibility for the full $2,000 contribution phases out for single filers with modified adjusted gross income (MAGI) between $95,000 and $110,000, and for married filing jointly between $190,000 and $220,000.

Funds contributed to a Coverdell ESA must be made before the beneficiary turns 18, unless the beneficiary has special needs. All funds must be used by the time the beneficiary reaches age 30, or the earnings portion of any remaining funds will become taxable and subject to a 10% penalty, unless rolled over to another eligible family member. Coverdell ESAs often provide a wider range of investment choices, including individual stocks, bonds, and mutual funds, giving account holders more control.

Custodial Accounts (UGMA/UTMA)

Custodial accounts, established under the Uniform Gifts to Minors Act (UGMA) or the Uniform Transfers to Minors Act (UTMA), allow adults to hold and manage assets on behalf of a minor. Funds placed into these accounts are an irrevocable gift to the child, meaning the assets legally belong to the minor and cannot be reclaimed by the contributor. An adult custodian manages the account, making investment decisions for the child’s benefit.

The primary difference between UGMA and UTMA accounts lies in the types of assets they can hold. UGMA accounts are limited to financial assets like cash, stocks, bonds, and mutual funds, while UTMA accounts can hold a broader range of assets, including real estate, intellectual property, and other tangible property. There are no contribution limits for these accounts, though contributions are subject to federal gift tax rules, similar to 529 plans.

A significant aspect of custodial accounts is their tax treatment, often referred to as the “kiddie tax” rules. A portion of the child’s investment earnings (up to $1,350 in 2025) may be exempt from federal income tax, and the next portion (up to an additional $1,350 in 2025) may be taxed at the child’s lower tax rate. Any earnings above this threshold are taxed at the parents’ marginal tax rate. When the child reaches the age of majority, typically between 18 and 25 depending on state law, they gain full legal control of the assets and can use them for any purpose, not just education. This flexibility is a key difference from 529 plans and Coverdell ESAs, which are specifically for educational expenses.

Opening and Contributing to Accounts

After determining the most suitable savings vehicle, the next step involves establishing and funding these accounts. The procedures are generally straightforward, requiring specific personal and financial information.

The process for opening a 529 plan typically begins by selecting a state-sponsored plan, which can be done directly through the state’s program website or through a financial advisor. Required information usually includes the account owner’s and beneficiary’s names, Social Security numbers, dates of birth, and current addresses. For Coverdell ESAs and UGMA/UTMA accounts, opening is generally done through banks, brokerage firms, or mutual fund companies.

Once an account is established, various methods are available for making contributions:
One-time lump sum deposits via check or electronic funds transfer.
Recurring automatic transfers.
Direct payroll deductions through employers.
Gifting platforms or mailed checks from friends and family (for 529 plans).

The way contributions are invested within these accounts varies by type. For 529 plans and Coverdell ESAs, account owners typically choose from a selection of investment portfolios, often age-based options that automatically adjust asset allocation. Alternatively, static portfolios or individual fund options allow for more hands-on management. In UGMA/UTMA accounts, the named custodian is responsible for managing the investments, which can include a wide range of securities, ensuring they are managed prudently for the minor’s benefit.

Broader Strategies for Saving and Financial Education

Beyond dedicated savings accounts, other methods can support a child’s financial future, alongside practical steps to instill financial literacy. These strategies offer flexibility and complement structured savings plans.

Savings Bonds

Savings bonds, such as Series EE or Series I bonds, represent a secure, low-risk way to save. These bonds accrue interest and can be redeemed for their face value plus accumulated interest, often after a minimum holding period. The interest earned on qualified savings bonds may be tax-free if used for higher education expenses, subject to income limits. Purchase these bonds electronically through the TreasuryDirect website.

Traditional Savings Accounts

Traditional savings accounts, including high-yield savings accounts, offer a liquid and accessible option for short-term goals or as an initial step before long-term investment vehicles. These accounts provide a safe place for funds, earning modest interest. They are suitable for saving for smaller, more immediate expenses or as an emergency fund. They lack the tax advantages of dedicated education accounts but offer simplicity and immediate access to funds.

Financial Education

Involving children directly in the saving process fosters financial awareness. A simple allowance system can introduce the concept of earning money. Encouraging children to divide their allowance into categories like “save,” “spend,” and “give” teaches them about budgeting and charitable contributions. This hands-on approach helps them understand the value of money and the benefits of delayed gratification.

Setting financial goals together, such as saving for a desired toy or a larger purchase, provides concrete objectives. Opening a basic savings account in the child’s name allows them to see their money grow and understand banking fundamentals. These experiences equip children with practical financial skills, laying the groundwork for responsible money management in adulthood.