Trump accounts hide Roth IRA strategy worth a fortune
The $1,000 government deposit set to begin reaching Trump Accounts after their July 4 launch has grabbed most of the attention, and more than 6 million children have already been enrolled in the program, though only about 1.4 million of them qualify for the seed contribution. However, financial ...
Overview
The $1,000 government deposit set to begin reaching Trump Accounts after their July 4 launch has grabbed most of the attention, and more than 6 million children have already been enrolled in the program, though only about 1.4 million of them qualify for the seed contribution.
However, financial planners and tax attorneys say the seed money may not be the most important feature of these accounts. What happens next could mean the difference between a modest nest egg and decades of tax-free compounding.
Trump Accounts function as traditional IRAs with a built-in Roth window
Trump Accounts, formally known as Section 530A accounts, are custodial-style traditional IRAs for children under 18.
Contributions from parents, grandparents, and other individuals can total up to $5,000 per year, with employer contributions of up to $2,500 counted within that cap, and no earned income is required.
Contributions from qualifying charitable organizations and state and local governments are not subject to the $5,000 limit, according to the IRS.
During the growth period, which runs until December 31 of the year before the child turns 18, funds grow tax-deferred, and withdrawals are prohibited, Fidelity noted.
Once that period ends, standard traditional IRA rules apply, and the account becomes eligible for a Roth IRA conversion.
How the Roth conversion turns pretax dollars into tax-free growth
Once a Trump Account transitions to a traditional IRA, the beneficiary can convert some or all of the pretax balance into a Roth IRA by paying ordinary income taxes on the converted amount. If the young adult converts during a low-income year, the tax bill can be remarkably small.
“If you save long-term, that’s a pretty sizable balance that you might get at 18, that you could then do a Roth conversion” at the child’s bracket, Rita Assaf, vice president of retirement offerings at Fidelity Investments, told MarketWatch.
Adam Bergman, founder of IRA Financial and a tax attorney based in Miami, told CNBC that Trump Accounts give children a path into a Roth IRA without needing a job.
Trump Accounts create a legal backdoor into a Roth IRA that does not require a child to have earned income, something that was simply not possible before
The 2026 standard deduction for single filers is $16,100, so a young adult with no other income could convert up to that amount and owe zero federal income taxes, Bergman explained to CNBC, assuming the young adult is no longer claimed as a dependent, since dependent filers use a smaller deduction under IRS rules.
Once the funds move into a Roth IRA, they grow tax-free, withdrawals after age 59½ are tax-free, and there are no required minimum distributions.
The compounding math behind a fully funded conversion
Austin Cassidy, a financial planner at Beacon Pointe, outlined a hypothetical on LinkedIn. A child whose family contributes the $5,000 maximum each year for 18 years, with investments growing at 6% annually, would accumulate roughly $222,000 in a Roth IRA by age 24, in Cassidy's hypothetical.
That figure is net of about $25,000 in conversion taxes paid in phases and a 10% penalty on funds withdrawn to cover a gap year.
Details
That $222,000 in a Roth account, left to grow at 6%, could compound to more than $1.8 million by age 60, Cassidy noted. Parents or grandparents can cover conversion taxes as a gift, since the 2026 annual gift exclusion is $19,000.
The kiddie tax creates a timing trap that could erase the advantage
The kiddie tax can apply to dependents under 18 and to 18-year-olds whose earned income does not exceed half of their support, and to full-time students ages 19 through 23 under the same support test, taxing unearned income above $2,700 at the parents' marginal rate.
Because a Roth conversion generates unearned income, it can trigger the kiddie tax provision and shift the tax bill from the child's bracket to the parents' rate.
This is “the largest technical risk” to executing the conversion strategy, Cary Sinnett, senior manager of personal financial planning at the Association of International Certified Professional Accountants (AICPA), told CNBC.
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For a high-earning household, a conversion during college could mean paying at the parents’ top rate of 32% or 37%, instead of the 10% or 12% bracket the strategy targets. The safest window is after the child finishes school and is no longer a dependent.
“By age 25, when the kid’s done with school, and they’re no longer eligible for the kiddie tax, I think doing small conversions along the way makes a lot of sense,” Bryan Strike, senior director of financial planning at Mercer Advisors, told MarketWatch.
How the account performs without maximum contributions
Even a seed-only account can compound meaningfully. The $1,000 Treasury deposit, invested in a low-cost U.S. equity index fund with an average annual return of 7%, could grow to roughly $3,380 by age 18.
Converted to a Roth IRA, those funds could keep compounding tax-free for decades. "The main idea is to give kids a head start on retirement savings," said Judd Meinhart, director of financial planning at Modera Wealth Management
Jeffrey Levine, a certified financial planner and certified public accountant, cautioned that beyond the free money, families need to weigh whether a Trump Account is the best use of their dollars compared with 529 plans or custodial Roth IRAs.
For children with earned income, a custodial Roth IRA is “generally more advantageous financially,” the Congressional Research Service reported.
The enrollment gap could leave lower-income families behind
Of the more than 6 million children enrolled, only about 1.4 million qualify for the $1,000 seed, representing just 39% of eligible children, CNBC reported.
The opt-in structure is a barrier for families who stand to benefit most, said Madeline Brown, senior policy associate at the Urban Institute.
Contributions launch on July 4, and Levine, Bergman, and Strike all pointed to the Roth conversion window as a feature families should weigh alongside the seed deposit.
Related: Trump accounts may be Trojan horse for Social Security reform
Source
Originally published at www.thestreet.com.
