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Why children’s savings accounts should be America’s next wealth transfer program

New special savings and investment accounts could help pave the way to college for America’s poor and middle class.

At a time of great wealth inequality and dramatically unequal chances between the rich and the poor of getting a college education, there is perhaps no better time for a new wealth transfer initiative.

Great wealth transfers are nothing new. In the 19th century, the Homestead Act provided public land to Western settlers. In the 20th century, the GI Bill provided tuition benefits to veterans.

As an expert on asset-building and student loan debt, if it were up to me, children’s savings account programs – a policy innovation springing up around the country – would become the great wealth transfer program of the 21st century. Currently, there are approximately 42 children’s saving account programs serving 313,000 children in more than 30 states. Children’s savings accounts are long-range investments typically started at birth or kindergarten and meant to pay for college. Families’ contributions to the accounts are leveraged with an initial deposit by a public entity and matching funds usually provided at a one-to-one ratio.

In order to make the path to education and its fruits equitable, all children must have the propulsion of wealth. To do this, I propose taking what are now small-dollar children’s savings accounts and allowing families to use them as investment accounts in order to yield a higher return.

Children from low-wealth families would receive an initial deposit at birth in a dedicated investment account – US$1,000 for wealthiest to $10,500 for the poorest. Added to the initial deposit, $5 in monthly family contributions could allow even the most disadvantaged children to turn 18 with approximately $40,000, if the money were put into an investment account. This is based on the S&P 500’s historical rate of return from 1997 to 2014. This is similar to how money in a 401(k) grows.

This $40,000 could be used to finance debt-free higher education at most public institutions.

Closing the racial wealth gap

This approach fits American values by leveraging investment growth and requiring family contributions while empowering young adults for life after college. And, while the investment accounts would not entirely close the gap that separates poor and wealthy children today, the gap would become smaller. Researchers from the Institute on Assets and Social Policy find that children’s savings accounts with an initial deposit of $7,500 could close racial wealth gaps by as much as 28 percent. This 21st-century wealth transfer could change the distribution of opportunity as dramatically as extending land ownership or opening the doors of universities to previously excluded veterans.

Growing concern about the high cost of college has led to demands for free college. However, “free college” – a concept that gained a modest amount of traction in the 2016 elections – ignores the roots of inequity. Inequality does not start when the tuition bill arrives, nor does it end after it is paid. Instead, financial aid would be better used to influence children’s early education, college completion and post-college financial health.

What makes children’s savings accounts the ideal vehicle for a wealth transfer isn’t their ability to help children pay for college. It is their ability to complement efforts to reduce inequality from birth to career.

For instance, in an article published by the Journal of the American Academy of Pediatrics, a randomized control trial found infants who were randomly assigned to receive a savings account demonstrated significantly higher social-emotional skills at age 4 than their counterparts without an account. These effects on social-emotional development are strongest among low-income families. Children with improved social and emotional skills display attitudes and behavior such as calming themselves when angry and establishing positive emotions that position them for academic achievement. Further, research published in “Social Service Review” found that children’s savings accounts also give parents tangible hope for their children’s futures.

Lasting effects

Children’s savings accounts help children get to and through college. Every year, many minority and low-income students fail to transition to college despite having the desire and ability to go. Children’s savings accounts are associated with reducing “wilt” – that is, when a young person in high school expects to attend college but does not do so shortly after graduating. “Wilt” is less of a problem among holders of children’s savings accounts because the accounts tend to make the students see themselves as destined for college. What this research suggests is when students expect to go to college and have identified savings as a strategy to pay for it, they’re more likely to make it.

Children’s savings accounts help students realize the “payoff” that college promises. Evidence suggests that children’s savings accounts may be a gateway not only to higher earnings as a college graduate, but also ownership such as stocks and bonds and more wealth accumulation. This wealth accumulation is one of the outcomes that ultimately motivates most Americans to pursue college degrees. Indeed, it is after graduation that children’s savings accounts have one of the most distinguished effects.

Nevertheless, today’s growing economic inequality means that children’s savings accounts are not enough. Children from low-income families compete on an uneven playing field against peers with entrenched generational wealth advantages. As a result, children’s savings accounts haven’t been able to fully overcome the fact that American families often have little money after they pay for basic needs. This reality has led some researchers and policymakers as well as school educators to oppose the idea of diverting money from income-based programs such as cash assistance to children’s savings accounts.

But what if spending could be changed into saving? In what I think is potentially the biggest innovation in the children’s saving account field since its conception, some children’s savings accounts might rely on reward cards that provide a rebate up to 4 percent on grocery store purchases, for example. Transforming spending into saving allows even the poorest to contribute, even when purchasing goods with food stamps, by simply shopping.

Spending to save

Cities are also converting their spending into saving by negotiating rebates up to 7 percent on purchases made with city p-cards, which are similar to consumer credit cards. In Long Beach, California, this approach is estimated to raise $15 million annually. This money is placed into a general education fund for city residents.

Some have suggested using grant and scholarship money. For example, the College Board has recommended putting a portion of Pell Grant funds into savings accounts for children starting as early as age 11 or 12. Nonprofit scholarship providers are beginning to use some of their scholarship funds as early commitments that transfer assets, from the scholarship program into children’s savings accounts, early enough to affect not only how children pay for college, but also how they prepare for it.

However, the federal government should also play a role in funding a transformative infusion of cash into these accounts. If Congress can find money for a bailout for big banks and a tax break for the wealthy, they should be able to do the same for middle-class and poor Americans.

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