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Saving for College: Custodial Accounts by Rande Spiegelman, CPA, CFP®, Vice President of Financial Planning, Schwab Center for Financial Research Updated January 9, 2009 Custodial accounts—sometimes called UGMA or UTMA accounts after the Uniform Gifts to Minors Act and Uniform Transfers to Minors Act that created them—are set up for your child and managed by you. When your child reaches a certain age, usually 18 or 21 depending on the state of residence, the money becomes his or hers. Use Your Custodial Account to Invest for Growth
Although past performance is no guarantee of future returns, stocks have offered the best chance for money to grow over the long term—though stocks increase your chance for loss of principal compared to bonds or cash. If college is more than 10 years away for your child, consider investing primarily in stocks and/or stock mutual funds.
If you invest in mutual funds, consider investing in no-load funds to help minimize your fees and expenses—these can have a large impact on your return on investment. Still, custodial accounts have their place when you want to invest money for your child's college education. If you want to set aside money for college expenses that aren't covered by an ESA or 529 plan—sorority dues or private voice lessons, for example—a custodial account may be just the thing. Keep in mind that a custodial account is essentially an irrevocable gift to your child. Let's say you're managing a custodial account for your daughter. You may both agree that the money should be used for college, but when she turns 18, 21 or 25 (depending on the state where she lives), she can use the money for anything she wants—college, a new car or a European vacation, for instance. How to open and contribute to a custodial account You can open a custodial account at virtually any brokerage or financial institution. The minimum to open a custodial account typically ranges from $500 to $2,000. Anyone (parents, grandparents, other relatives and friends) can make unlimited contributions to a custodial account once it's open. However, a person can't contribute more than $13,000 per year ($26,000 for a married couple) without triggering the gift tax. Tax advantages While custodial accounts can't match the tax-free benefits of 529 plans or ESAs, they have some tax advantages: Tax Benefits of Custodial Accounts
*Beginning in 2008, the so-called Kiddie Tax was extended to children under 19. In addition, full-time college students under the age of 24 are also taxed at their parents' rate on unearned income in excess of $1,900, unless the students' earned income is greater than one-half of their support. Effect on financial aid Custodial accounts can have a heavy impact on financial aid. Because the money in a custodial account is your child's asset and not yours, financial aid formulas consider 20% of the money to be available to pay for college. Saving and investing for college is a smart financial move, even if you believe your child may qualify for financial aid. Remember, the majority of financial aid comes in the form of loans, which must be repaid. For more about financial aid, check out FinAid.org or the College Board. Important Disclosures Investors should consider carefully information contained in the mutual fund prospectus, including investment objectives, risks, charges and expenses. You can request a mutual fund prospectus by calling Schwab at 800-435-4000. Please read the prospectus carefully before investing. Investment value will fluctuate, and shares, when redeemed, may be worth more or less than original cost. As with any investment, it is possible to lose money by investing in a 529 Plan. Before investing, carefully consider the plan's investment objectives, risks, charges and expenses. Before making an investment decision, consider whether your or the beneficiary's home state offers a 529 Plan that provides its taxpayers with state tax and other benefits not available through certain plans. The information provided here is for general informational purposes only and should not be considered an individualized recommendation or personalized investment advice. Each investor needs to review educational accounts based on his or her own particular situation. The information is not intended, and should not be construed, as a specific recommendation, or legal, tax or investment advice, or a legal opinion. Individuals should contact their own professional tax advisors or other professionals to help answer questions about specific situations or needs prior to taking any action based upon this information. (0109-7504) Return to Top |
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