I’m so, so, SO privileged to have graduated from college without any student debt. Because my grandmother had the foresight to set up education funds for each of her grandchildren, I have more disposable income than I otherwise would have had in my post-college days. It’s all thanks to grandma that I can now spend money on things like my wedding and my future house, rather than humdrum student loan bills.
We all want to give our children better lives than we had, and my grandma set the bar pretty high. Ideally, my son will go to college and graduate debt-free, too. While looking into some different college savings options, I came across Uniform Transfer to Minors Act (UTMA) and Uniform Gift to Minors Act (UGMA) accounts. So what are these accounts, and are they a good choice for your child’s education fund? Let’s take a look.
UTMAs, UGMAs and Other Fun Words to Say
In most states, minors can’t own securities (stocks, bonds, mutual funds etc.). A parent must establish a trust to transfer these sorts of assets to a minor. That’s where UTMAs and UGMAs come into play. Both are irrevocable trusts, established by a donor for a beneficiary, and overseen by a custodian.
Let’s break that down a bit. A trust is a relationship in which one party (the donor) gives another party (the custodian) the right to hold title to assets for the benefit of a third party (the beneficiary). The custodian has a fiduciary (legal) duty to manage the assets in the minor’s best interest. The “irrevocable” part of this simply means that it can’t be reversed. Once you put your money into an UTMA or UGMA account for your child, you can’t take it back, even if you’re afraid your child won’t spend it how you intended.
When the beneficiary of the UTMA or UGMA comes of age, the trust terminates and control of the assets is transferred to the minor. This age varies depending on both the state and the type of account; UTMAs usually terminate at 21, and UGMAs usually terminate at 18.
UTMAs and UGMAs function in essentially the same way, but there are some minor differences. UTMAs are slightly more flexible. While UGMAs only allow minors to own securities, UTMAs allow minors to own real estate, fine art, patents and royalties, according to FinAid.org.
Things to Consider When Using UTMAs and UGMAs to Save for College
So you’ve got some money you’d like to invest for your child’s college savings fund. Are UTMAs and UGMAs the right choice? Here are some things you should think about.
It’s Your Child’s Money
You have big dreams for your child’s future. In a perfect world, little Johnny will grow up, graduate high school at the top of his class, attend one of the finest universities in the country (using his UGMA money to supplement his substantial scholarship) and become a neurosurgeon.
Well, it doesn’t always work out that way. All that money you set aside in your UGMA for little Johnny might not be used for education if little Johnny doesn’t want to go to college. And while it might pain you to see your hard-earned dollars being spent on movie tickets and overpriced tennis shoes, there’s nothing you can do about it.
It’s Taxed at the Parents’ Rate
People used to use UGMAs to pay taxes at a lower rate. By shifting the funds to the child, the money was taxed at the child’s tax rate, which meant less of the money went to taxes.
Then the government got smart. Now, money in UTMAs and UGMAs is taxed at the parents’ tax rate – so gifting the money to your child won’t necessarily do you any good, money-wise.
It Will Count as the Student’s Assets
Say little Johnny does want to go to college. Although he received a full scholarship to [ENTER NAME OF DAD’S ALMA MATER HERE], this little heartbreaker has chosen to go out of state, and it ain’t cheap. Financial aid will be needed, which means little Johnny will need to fill out the Free Application for Federal Student Aid, better known as the FAFSA.
According to an article on Forbes, investing in UTMAs and UGMAs is pointless unless you are absolutely certain your child won’t be applying for student aid. The FAFSA considers UTMA and UGMA accounts to be assets of the students – which means they make your student eligible for less aid. So unless you’re wealthy enough not to be eligible for any aid, don’t set up an UTMA or UGMA.
Smart Solutions: Shifting the Money to a 529 Plan
So what if you’ve already got an UTMA or UGMA account, but you’re worried about the potential impacts of financial aid? FinAid.org recommends transferring the money to a custodial 529 plan.
Unlike UTMAs and UGMAs, 529 plans are treated as the asset of the parent where the FAFSA’s concerned. So this money won’t count against your child’s eligibility quite as much as it would if it were in an UTMA or UGMA account.
I hope you learned a little something about custodial accounts today, but if you didn’t, I hope you had great fun saying UGH-MAH in your head. Questions? Comments? Concerns? Shout ‘em out below!