Your Investing Life: Having a baby
October 31, 2013
Congratulations on the new member of your family! You've embarked on one of the most rewarding, frustrating, overwhelming, joyful experiences you'll likely ever have.
As you sort through the baby gifts, organize your baby's room, and think back fondly on those weekends you used to sleep in, you're probably not thinking about your investments or financial planning (unless it's figuring out how to pay for all that baby gear you just bought). But keeping a few things in mind now can help make a difference for your financial future—and your child's.
Build some castles in the air . . . and plan for construction
Quieter times with your baby—during feedings or sleep-inducing cuddles—are perfect for picturing how your family's future may look. Creating those images is the first step in developing a financial plan to help make them a reality.
Keep a pen and paper (or the memo function on your smartphone) handy so that you can jot down your visions and ideas. That way you'll remember them, even when lack of sleep prevents you from remembering where you left your coffee cup.
Take care of your documentation
Now that you have a new addition to consider, update your paperwork. Add your baby as a beneficiary on your banking and investing accounts. You can designate your child as a secondary beneficiary, with your spouse or another trusted adult as the primary one.
You may also want to consider putting an estate plan in place. At the very least, you'll want to draft a will and designate a guardian for your child. Estate planning can be a bit complicated, so you may want to consult a professional to help you sort things out and come up with a plan. (Vanguard has expert, noncommissioned financial planners available to assist you.)
Be ready for the unexpected
Babies are full of surprises. Some, like your baby's first smile, are joyful. Others, like your first trip to the emergency room, are terrifying—and sometimes expensive, . But when you've built up some emergency savings, you can at least feel a little more prepared to handle those unexpected costs.
It's also a good idea to explore your health insurance options, especially if your employer (or your spouse's) doesn't offer coverage or you're self-employed. Between well-baby visits, teething fevers, and whatever bug your youngster picks up at the playground, you'll get to know your pediatrician quite well. Having insurance protects you from the damage medical expenses—especially unplanned ones—can do to your family's bottom line.
Finally, if you find that child-care costs will eat up a good portion of your or your spouse's salary, one of you may decide to stay home with your little one. So you'll need to figure out how you can live on less income.
"Having cash on hand for emergencies, a life insurance policy, and an estate plan are basic but essential techniques for avoiding potential disasters," said Chuck Riley, a financial planner with Vanguard Advice Services. "I think of them as precautionary, like holding my six-year-old daughter's hand to prevent her from wandering off. Taking some basic financial planning steps is one way to be ready for the unexpected."
Take advantage of tax savings
Uncle Sam offers parents some tax benefits. You can add your new baby to your list of dependents on your tax return, provided his or her birth date was on or before December 31 of the tax year for which you're filing. The IRS website is a good place to find more information about which programs and deductions you may qualify for.
Some other potential tax breaks worth exploring:
- The child tax credit may reduce your federal income taxes by up to $1,000 for every child under age 17 in your care, provided you meet the income thresholds and other requirements.
- The earned income tax credit (EITC) may return some of the income you earned during the year if you meet the qualifications for "low to moderate income." The refund amount depends on how much income you (or you and your spouse if you're married and filing jointly) earn and how many children you have. To find out more about the credit and see if you qualify, visit the IRS website's EITC Assistant.
- The child and dependent care credit may provide you with a tax credit when you spend up to $3,000 in child-care costs for a single child or up to $6,000 for two or more children. (Any amount higher doesn't qualify for this credit.) Your gross income determines the credit you can receive. The IRS doesn't allow you to file for a child-care credit and use a flexible spending account at the same time, so you'll have to assess which option makes better sense for you.
- A flexible spending account (FSA) for child care is a benefit offered by some employers. It allows you to contribute up to $5,000 before taxes to pay for child-care expenses. For example, contributing $1,000 to an FSA could save you $250 on your federal taxes if you're in the 25% tax bracket.
Another opportunity to save on taxes—plus save for your child's future college costs—is by opening a 529 college savings plan. Although you can't deduct 529 contributions from your federal income taxes, many states let you deduct some—or even all—of your contributions from your state income taxes. Your investment grows tax-deferred, and distributions for the beneficiary's qualified education costs are tax-exempt.
According to Sarah Hammer of the Vanguard Investment Strategy Group, "It's worth doing a bit of research to find out if you qualify for any of the available tax credits or if you can use an FSA. These opportunities can help take a chunk out of your tax liability, and that's money in the bank for your growing family."
Along with their chubby cheeks and sweet smiles, babies come with a lot of expenses. It can be tough to carve out some room in your budget to save for your future, especially when you're buying everything from sippy cups to strollers. And if you or your spouse have decided to forego working for an employer to stay home with your new addition, it can be even more challenging.
However, the benefits of developing a savings habit—even if the amount is as small as $5 or $10 a week—can be substantial, especially over a long period of time. Let's say you put $10 a week into a savings or investment account and you do so for 30 years. Even before you account for any investment earnings, you'll have saved $15,600.
"It's okay to slow down your savings temporarily," Mr. Riley said. "Slowing down for a while likely won't derail your financial future. As you try to balance the financial demands of a new baby with your long-term investment goals, make sure you have a plan in place to eventually get back on track. Try to return to your regular saving level (or even a higher one) as soon as you can and don't completely stop saving, so you maintain the habit."
Power up savings by investing wisely
When you invest your savings, you have an opportunity to grow them even more thanks to the power of compounding—the snowball effect that happens when your investment earnings generate even more earnings.
But before you choose an investment, it's a good idea to check out its balance of risk to potential rewards. More risk generally means more potential for reward, but it can mean more losses too. (To find a fund's risk level, just go to its Overview page on vanguard.com, where you can also sort your choices by risk.) If you're not sure how much risk you're comfortable taking on, you can find out by completing our Investor Questionnaire.
Knowing your risk tolerance can help you create a balanced portfolio of stocks, bonds, and cash that makes sense for you—and your family. You should also take into account your financial goals and the length of time you have to invest. Finding the right balance and sticking to it can set you on the path to long-term investing success.
- All investing is subject to risk, including the possible loss of the money you invest.
- For more information about any 529 college savings plan, contact the plan provider to obtain a Program Description, which includes investment objectives, risks, charges, expenses, and other information; read and consider it carefully before investing. If you are not a taxpayer of the state offering the plan, consider before investing whether your or the designated beneficiary's home state offers any state tax or other benefits that are only available for investments in such state's qualified tuition program. Vanguard Marketing Corporation serves as distributor and underwriter for some 529 plans.
- We recommend that you consult a tax or financial advisor about your individual situation.