Most of the roughly 7 million Americans graduating from high school or college this year will receive gifts from parents, grandparents, other relatives or friends to mark their academic accomplishments.
Those doing the giving can help put these mostly young adults on the path to success with financially impactful gifts. These include donations that can help a young person get started on an investment path, especially with tax-sheltered growth. Parents and others also can provide sage financial guidance.
Amounts vary, but the people who gave gifts last year to high school or college graduates said they were planning to spend about $103 on average, according to a survey of nearly 7,700 Americans by the National Retail Federation. The 2019 update will be available later this month.
Cash was the most popular gift last year, cited by 55% of givers. Greeting cards, many with cash inside, were the next most common category at 43%. Then came gift cards at 32%, clothing at 14% and electronic devices at 10%. Some respondents gave multiple answers.
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Cash gifts including personal checks are the easiest and most widely accepted option, but gift cards and prepaid debit cards often are more personal, or at least, memorable. They also provide protection against theft if you register the cards, but you should inquire about possible fees if you go this route.
What about investing?
Graduation also provides an opportunity for parents, grandparents and others to start teaching investment lessons that can help a recipient throughout his or her lifetime.
They could, for example, use gift money to help a new grad invest. Many public companies sell their common stock in modest amounts of $250 to $500, if not less, through dividend reinvestment plans or DRIPs. But for purposes of diversification, parents would be better off encouraging a new grad to lean toward low-cost mutual funds, especially index funds, with low-dollar minimums.
For example, the new Zero Funds from Fidelity Investments (fidelity.com) feature no management fees and no minimums yet offer broad stock-market exposure. Charles Schwab (schwab.com) also offers various funds with little or no investment minimums. Accounts are easy to set up online, without the help of an investment broker, though those professionals stand ready to help, too.
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Stock-oriented funds are appropriate choices for young adults who can leave this money untouched for years if not decades. Young adults can benefit greatly from letting their investments compound for many years. Compounding involves earning interest or dividends on interest or dividends that were reinvested earlier.
A Vanguard study, geared to young adults, showed the compounding potential of small-dollar investments. It suggested skipping a Starbucks coffee drink to save maybe $3.50 or so a day, then putting that into an investment account. Over 30 years, the money reasonably could be expected to swell to more than $100,000.
What about retirement accounts?
Graduation can be a great time to get a young adult started on the path to retirement, even if that won’t arrive for another four or five decades. People who begin early can take advantage of long-term compounding and the tax-sheltered growth that’s available in many types of retirement accounts.
Dan Keady, chief financial planner at investment firm TIAA, touts Roth Individual Retirement Accounts for young adults. Parents and others can seed them with gift money, as long as the graduating student has job income at least equal to the contributions. Roths are off-limits to high-income people, but recent grads aren’t likely to hit these limits — eligibility isn’t a problem until a person earns more than $122,000.
Roths don’t offer tax deductions, but most new grads won’t be sacrificing much because their initial earnings will place them in relatively low tax brackets, he noted.
Keady considers Roth IRAs to be a type of emergency fund, as investors can pull out amounts equal to their contributions at any time, tax and penalty free. Many Americans don’t have much in emergency money. But to maximize the compounding benefits, it’s best to leave these retirement funds alone for decades.
If possible, Keady recommends that parents and other family members pool their gifts to get a Roth IRA off to a good start, preferably with around $1,000 or more, and he suggests that they help the student select a suitable stock fund and fill out the paperwork.
“Don’t just hand them cash and tell them to open an IRA,” he said.
What about advice?
Parents, grandparents and others also can give the gift of financial guidance, assuming they are good role models themselves. Keady’s suggestions here include helping to explain budgeting, compounding and the benefits of workplace retirement plans.
When new grads land their first jobs, they often can sign up for benefits such as 401(k) retirement plans and take advantage of employer-provided matching funds. But not all eligible workers participate in these plans, and many don’t even know what’s available.
Three in 10 workers surveyed recently by the Certified Financial Planner Board of Standards said they didn’t know if their employer offers a plan, and one in four described retirement savings as too complicated.
Income taxation is another area where parents, grandparents and others can provide guidance.
“All that education you got in college might not help you in the real world, especially with taxes,” said Dave Du Val, chief customer advocacy officer at TaxAudit, an audit-defense company.
Not only can tax-return preparation be complicated but new taxpayers often don’t realize their responsibilities. For example, Du Val cites paycheck withholding as an often-difficult and inexact exercise, especially with a new, more complex federal W-4 form out this year.
“Basically, you will need to do a tax return just to fill it out,” he said.
As another example, new grads who go into business for themselves might not realize that they need to start paying Social Security and Medicare- self-employment tax.
“If you’re in your first job, how would you know that?” he said.
Du Val considers the period around graduation and workforce entry as a great time to develop a recordkeeping system for investments, taxes and more — systems that a new grad can use for life. Parents and grandparents who are organized can offer guidance here, too.
Reach Wiles at email@example.com or 602-444-8616