My 5 year old daughter sees colored lights. Its clear she's not making it up. What could cause this?

Colored Lights. Colored lights may be due to migraine headache or a retinal problem inside the eye, such as a retinal tear or retinal hole. In either care, seek help from her pediatrician and from a pediatric ophthalmologist as soon as possible.
Migraine. I would need more specifics about when these episodes are happening and what exactly they are. If it appears as "shimmering lights" in both eyes that lasts a few minutes and is followed by a headache, it could be a migraine. There are other more rare diagnoses. She should have a complete eye exam for further evaluation.