What Are The Best Tax-Free Investments for Children

What Are The Best Tax-Free Investments for Children

Socking money away into a high-interest kids savings account is a good place to start if you want to give your child a brighter future, and even better, when it’s tax-free. There are different types of investment vehicles that offer tax advantages and can help you to set your children up for financial success. 

Municipal Bonds

The first thing that comes to people’s minds when they think of tax-free investment is munis or municipal bonds issued by government entities like countries, cities, or states. Although there are a few exceptions, muni interest is generally exempted from federal income tax and in some case, state tax as well.

If you really look closely, municipal bonds are really the only and purely tax-free game in town. Although money market funds and bond funds do offer tax-free funds, but both of them also generates income from making investments to those same tax-free bonds.

A master limited partnership (MLP) can act as a de facto tax-free investment in some cases and depending on your situation and time horizon. Thanks to the structure of an MLP, some MLPs that offer quarterly dividends aren’t affected by depreciation deductions and seen as “return of capital” which can be non-taxable.

Although sheltering deductions will ultimately be exhausted, it doesn’t usually happen for many years. The process resets if the MLP shares are willed to your heirs and they can inherit them at a new, higher cost basis.

529 Savings Plan

You can start saving for college through contributing to a 529 plan as well. Having your contributions grow tax-deferred is the best thing there is of saving in a 529 plan. The withdrawals you make are always tax-free as long as the money you use in the account is for qualified education expenses purposes. 

The money from your child’s 529 accounts can also be used to cover tuition for a private school in kindergarten through 12th grade according to the tax plan passed by President Trump.

You can also invest money through mutual funds as it is allowed by most 529 savings plans. You should be able to pick and choose what to invest in when you have enough available funds but you can also look for plans that invest in more than just mutual funds.

Custodial IRA

It’s always best to start saving for retirement as early as possible. You can set your child up with a custodia IRA or individual retirement account if he or she is older and is working. Until the child turns 18 or 21, the assets belong to your child but you’ll have control over them with this kind of IRA. However, it also depends on your state’s rules.

Based on the type of tax treatment you choose, you can set up either a traditional or Roth IRA. When your child retires, he or she can make tax-free withdrawals under the Roth IRA. However, in the year of contribution, you must expect a tax deduction out from traditional IRAs.

Custodial IRAs still have contribution limits and withdrawal rules for regular IRAs. The most positive thing about this is that your children can take penalty-free withdrawals from their accounts for qualified education expenses or to put money down one they get their first home.


Every parent will always want the best for their children and the investment vehicles broke down above should be able to help you make that happen. Your own financial future, however, must come first so make sure you save enough for your retirement before you invest in any account for your kids.

Consider working with a financial advisor if you want to make the best financial decisions for you and for your children’s future. A trusted and experienced Accountant can help look through your current financial situation and identify your future goals. You’ll be given options to choose from including the above-mentioned investment vehicles. As for taxes, although they are a fact of life and they help government function, you should still find a way to help reduce or be free from it for the sake of your children’s future. You’ll be able to take the sting out of your tax bill through tax-free bonds and other forms of tax-free investments and with the help of tax professional or financial advisor.

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