As more than a few members of the class of 2011 resettle into their childhood bedrooms, many parents are wondering, "How can I help?" There are plenty of ways, but a series of new tax laws and financial services regulations have made some strategies better than others.
There are lots of ways to offer financial assistance beyond simply handing over cash, experts point out, and each carries consequences for the giver, as well as the recipient. With income tax rates still low, for example, making a contribution to a child's Roth IRA is an attractive move. Low interest rates and lousy bond yields make an intra-family loan a compelling idea for both parent and child. And a recently implemented provision in the federal health care law lets families keep Junior insured for little or no extra cost. "It's gotten a lot easier to help," says Linda Leitz, a financial adviser and the author of "The Ultimate Parenting Map to Money Smart Kids."
Many grads can certainly use the help. Of employers who hired new grads last year, more than a third don't plan to or are uncertain about whether they'll hire new grads this year, according to a survey by the Collegiate Employment Research Institute at Michigan State University. For those who do get jobs, it still may not be easy: the average salary for new college grads is just under $37,000, down almost $10,000 from two years ago, according to the survey. At the same time, student loan debt is expected to be up about 17% from 2008, according to Mark Kantrowitz, publisher of finaid.org.
Parents are well aware of these challenges. About a third of parents with children 18 to 39 feel that the younger generation faces greater financial pressures than they did, according to a survey released in June by TD Ameritrade. And more than half of boomers said they would help even if it "takes away from their own savings goals."
Such statements make most financial advisers cringe. Most baby boomers need every extra penny to bolster their own retirement prospects, says Cheryl Holland, a financial planner in Columbia, S.C. Among long-term 401(k) participants in their 50s, the average balance was less than $140,000 at the end of 2009, according to the most recent data from the Employee Benefit Research Institute. That's enough to safely generate about $5,600 in annual income in the first year or retirement, according to T. Rowe Price -- not enough to provide a meaningful supplement to Social Security for most retirees. That's why most financial advisers warn parents not to help the at the expense of their own savings. "Short term help may be a long term detriment," says Leitz. "If kids end up having to support their parents who haven't saved, they haven't done their kids any favors."
But for those with a little surplus, the changes in tax and health care laws have made the following four strategies more affordable.
Keep them on your insurance
Until this year, a child had to be a full-time student and under 22 to stay on his parents' health insurance in most states. Not anymore. A provision in the Obama administration's health care reform legislation has made it possible for mom and dad to keep a child on their insurance plan until he's 26, regardless of student status. That may not be a huge savings, compared to buying insurance for a healthy 20-something on the open market, but workplace-sponsored plans are often more generous, have lower deductibles, and don't charge significantly more for pre-existing conditions, says Craig Palosky, a spokesman for the Kaiser Family Foundation. Parents can add the new grads even if they've been using a different policy at school, but employees should contact their insurer or human resources department to make sure the necessary paper work is completed.
Fund a Roth IRA
By keeping income tax rates relatively low, the extension of the Bush-era tax cuts also makes it smart for parents to contribute not just to their own Roth IRAs, but to a child's. Because savers put after-tax money into a Roth, but withdrawals are tax-free, it's most advantageous if savers believe taxes will go up in the future which advisers agree is most likely the case. Plus, helping a child start early can have a dramatic impact on his overall savings. A $5,000 IRA contribution this year could potentially grow to $75,000 in 40 years, assuming a 7% average return, according to T. Rowe Price. And while that's not enough to retire on, it does set a nice precedent, says T. Rowe Price financial adviser Stuart Ritter: "It sends an important message that saving for retirement is something they should prioritize."
Help build credit
Since new legislation passed in 2010, college students have largely been off-limits to credit card companies, unless they have a co-signer or evidence of income. As a result, many in the class of 2011 are graduating without a credit card in their own name and, therefore, no credit history. Rather than co-signing for a card, Greg McBride, senior financial analyst at Bankrate.com, recommends parents help new grads get what's called a secured credit card, which requires a cash deposit to secure the line of credit. For example, someone who deposits $500 can charge up to that amount. He'd still have to pay the bill on time, but the issuer is protected in the event of default. Parents may need to help by providing the cash deposit. But McBride says consumers should look for cards with low fees that report payment history to the three largest credit bureaus. That would include a card like the Orchard Bank Secured MasterCard, which has a low minimum deposit, no annual fee, and charges a reasonable 7.9% interest rate, says Odysseas Papadimitriou, CEO of credit card comparison site CardHub.com.
Make a loan
While lending to relatives has its risks, low interest rates makes this a potentially great time for intra-family loans. Kids could use the cash, and parents may benefit from repayment terms that provide a better interest rate than they can get with a bank certificate of deposit. In order to play by the Internal Revenue Service's rules which would enable a parent to write off a loan if it doesn't get repaid the lender must charge a minimum interest rate on any loan larger than $10,000. Currently, that's 0.46% for loans for less than three years, 2.27% for those three to nine years, and 4.05% for those nine years and longer. The IRS likes to see notarized promissory notes and records of repayment, says Bill Fleming, a managing director with PwC's Private Company Services Practice. Parents also need to declare the interest payments on their tax returns. But even with an automatic repayment plan, which Fleming recommends, there always is the danger of not getting paid back. In that case, you either have to be prepared for a write off, or some tough love.