Through working with investors, we’ve come across a nearly universal truth—parents will do whatever it takes to help their children—even if it means risking their financial future.
Life is what happens when you’re busy making plans: You’re busy saving for retirement or even enjoying your retirement, and suddenly your adult child needs financial help. It could be a lost job, an expensive divorce, housing insecurity, or health issues that have put your child in a financial bind. Most parents’ gut instinct is to lend or give their child money to bridge the crisis. When situations like this happen, working with your financial adviser can help you find the money in your plan so it does not derail your financial security.
First and foremost, we recommend that investors have honest and open conversations between themselves and their child on the expectations of a loan or gift. The child is an adult and needs to be willing to make lifestyle changes to repair their situation. The child cannot ask to borrow money and continue living the lifestyle they have been. What expenses will be cut? As for the parents, you need to decide what lifestyle changes you are willing to make to be able to afford to help. Will it be foregoing a vacation, cutting a country club membership, pausing retirement plan contributions, or taking more money out of your retirement accounts? Is everyone willing to make short-term sacrifices and allow your child—and potentially his or her family—to move back home to conserve cash flow?
If you are committed to helping your child financially, you need to understand how it affects your finances and where you can find the money. You may have cash reserves, taxable investment accounts, Traditional and Roth IRAs, and 401(k) savings, all with different consequences for withdrawing. Emergency cash reserves are the easiest source of funds, as helping a child is considered an emergency for most families. Taxable investment account withdrawals may incur capital gains. Traditional IRA withdrawals incur income tax and possibly penalties if you are younger than 59 ½. Roth IRA funds may be tax-free but could also carry an early withdrawal penalty. 401(k) loans are limited up to $50,000 or 50% of your vested balance, require you to pay yourself back with interest, and may prevent you from making further contributions until the loan is repaid. You should verify the details of your plans rules and provisions prior to taking a loan. There is also an opportunity cost of missing out on future growth with all investment accounts. Another option is taking a cash out refinance on your house, using your home equity as a source of funds.
You also need to consider how you are helping. In 2022, you may gift $16,000 to any number of individuals per year without incurring a gift tax or using part of your lifetime exemption. The IRS requires a loan to be a legal contract with a repayment plan and an interest rate set by the IRS. Furthermore, if you have multiple children, financially helping one can create an estate plan issue if one child receives substantially more during your lifetime.
Overall, financially helping your adult children is a personal choice, and your financial adviser will not stop you from your decision; however, your adviser is there to help you minimize any risk to your plans.
If you have questions on financially helping your adult children, the experts at Henssler Financial will be glad to help:
- Experts Request Form
- Email: experts@henssler.com
- Phone: 770-429-9166
Listen to the April 23, 2022 “Henssler Money Talks” episode.
This article is for demonstrative and academic purposes and is meant to provide valuable background information on particular investments, NOT a recommendation to buy. The investments referenced within this article may currently be traded by Henssler Financial. All material presented is compiled from sources believed to be reliable and current, but accuracy cannot be guaranteed. The contents are intended for general information purposes only. Information provided should not be the sole basis in making any decisions and is not intended to replace the advice of a qualified professional, such as a tax consultant, insurance adviser or attorney. Although this material is designed to provide accurate and authoritative information with respect to the subject matter, it may not apply in all situations. Readers are urged to consult with their adviser concerning specific situations and questions. This is not to be construed as an offer to buy or sell any financial instruments. It is not our intention to state, indicate or imply in any manner that current or past results are indicative of future profitability or expectations. As with all investments, there are associated inherent risks. Please obtain and review all financial material carefully before investing. Henssler is not licensed to offer or sell insurance products, and this overview is not to be construed as an offer to purchase any insurance products.
