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Many immigrants move to the United States for higher education and better opportunities than their home country can provide. You work hard to give yourself and your family a better life. In the future, you want your children to have a solid start into adulthood and go after their dreams. One way to give that to them is through saving in a Uniform Gifts to Minors (UGMA) or Uniform Transfers to Minors (UTMA) account.
Before opening an account, it is important to understand how UGMA and UTMA accounts operate. They can be used for many different purposes that benefit the child in comparison to a 529 account, which makes the savings potential huge. However, there are eligibility requirements, tax implications, transfer rules and other factors that you need to consider in advance. Not to mention, how being an immigrant will affect your ability to open an account.
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How Do UGMAs and UTMAs Work?
A Uniform Gifts to Minors Act (UGMA) or Uniform Transfers to Minors Act (UTMA) are accounts that you can use to save for your child’s needs under their Social Security number. In fact, anyone can open or contribute to an UGMA or UTMA on behalf of a child. They can be opened at most brokerage firms.
Because your child is a minor, they are considered custodial accounts. This means that the assets are in their name, but you hold fiduciary responsibilities to manage the account until they reach the age of majority or termination for your state. You will contribute and invest on their behalf until the account can be transferred into an individual account in their name.
Since the account is meant to safeguard the child’s assets, you will typically have the ability to invest in stocks, bonds, ETFs and mutual funds. However, you may be limited with stock options or buying on margin. Take a look at growth-oriented investments like stock mutual funds that aim to increase their per share value over time.
As your child grows up, you can contribute as much as you want to the account. Consider setting up an automatic investment plan to put the savings on autopilot, or add it to your budget to manually contribute once a month.
You can even allow friends and family to add to the account. This could be a great birthday or holiday gift alternative for those who are financially savvy. Save up and watch compound interest work its magic!
Even though you can contribute as much of your post-tax money as you’d like, taxes are dependent on the annual exclusion limit. In 2019, amounts above $15,000 per year, or $30,000 for a married couple filing jointly, will incur a federal gift tax.
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Investing in the market has the potential to produce more favorable returns than a savings account. However, keep in mind that high reward also results in high risk. In addition, past performance is not an indicator of future results. Be sure to check in with your financial planner to put together a UGMA or UTMA investment plan that meets your needs.
If you invest $25 a week for 18 years at your local bank, at a 1% annual interest rate, you’ll have roughly $26,000 at the end. Alternatively, if you invest the same amount for the same time frame in an investment account making 6% in earnings each year, you’d have roughly $43,000 at the end of 18 years. That’s a total of $17,000 in additional savings, which can be the difference of an entire year of college costs!
What Can a UGMA and UTMA Account Be Used For?
Unlike a 529, UGMA and UTMA accounts can be used for many purposes. They are useful saving tools for either education, or any other purpose that will benefit the child. Keep in mind that parental obligations such as food, clothing and shelter do not count.
The custodian can withdraw the money for these purposes, or the child can choose how the money is spent once they are old enough.
Here are some ideas of things your UGMA and UTMA savings can be used for, either by the custodian or by the beneficiary.
Education – The money can be used to offset the costs of K-12 tuition, college expenses, and trade or vocational school. Tuition, books, supplies, meal plans, and living expenses can all be taken care of. The less student loans your child takes out, the better off they’ll be in the future.
Car Purchase – You can use UGMA and UTMA funds to help your child purchase a new or used vehicle outright, or even just for a sizable down payment. This will save them from large monthly payments including interest charges.
Home Down Payment – Putting 20% down on a home purchase can save your child tens of thousands of dollars in interest and Private Mortgage Insurance (PMI) charges. A UGMA or UTMA can help make their first home purchase a success.
Wedding – Take the stress of paying for their wedding off your child’s plate by using some of your UGMA and UTMA savings toward the expenses. They’ll have to worry less about taking out personal loans, and more about who their photographer will be. The day will be more enjoyable and memorable when they are taking on no debt to start off their newlywed life.
Business Investment – Your child may want to venture into entrepreneurship by starting their own business. UGMA and UTMA savings can help offset their start-up costs. Your savings have been compounding over time and will literally help them work towards their dreams.
Rental Property – If your child wants to explore passive income opportunities, a UGMA or UTMA can give them the means to purchase their first rental property.
When your child reaches the age of majority or termination for your state, custodianship will end and the assets will be transferred into the control of your child. Typically, this occurs between 18 and 21 years of age, and it varies by state.
They will have the option to move the assets into their own individual non retirement account which is typically considered a taxable brokerage account. They will be the only one with access to the account unless the financial institution gives them the option to grant third party access.
They can choose to do many things with the account now that it is a non-custodial account.
- Invest – They can choose to continue contributing to the account and investing their money for the long-term.
- Use for Expenses – Your child can also choose to use the money for expenses as they see fit.
- Distribute the Money – They also have the authority to completely withdraw the money from the account and close it, if they see fit.
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Factors to Consider
There are many things that you should consider if you decide to open a UGMA or UTMA account for your child. Make sure that you are comfortable with these conditions before you move forward with opening the account.
Contributions are Irrevocable
UGMA and UTMA accounts are opened in your child’s name using their Social Security number. Any money that you contribute to the account cannot be withdrawn for purposes other than for your child. In other words, you won’t get that money back for your own use.
Beneficiaries Cannot be Changed
This is your child’s account and therefore their assets. You cannot change the name, or beneficiary, on the account for any reason. Consider opening up a UGMA or UTMA account for each of your children.
Contributions aren’t Tax-Deductible
You won’t receive any tax benefits for contributing to a UGMA or UTMA. This includes any tax credits or tax deductions.
The accounts do not offer any state or federal tax breaks. Additionally, any earnings are subject to federal income and/or capital gains tax. So, when you withdraw from the account, expect to receive a tax form for that tax year. The tax form will either be in your child’s name or on your tax return, depending on how your family files taxes.
In 2019, the first $2,100 of unearned income for your child is tax-free. This amount may change each year. Any unearned income afterward can be included on the parent’s return if they elect to do so. In this case, the child won’t have to file a tax return. Otherwise, the child will need Form 8615, Tax for Certain Children Who Have Unearned Income, filed on their behalf.
Financial Aid Impacts
Since the assets are in your child’s name, this will be taken into consideration when applying for financial aid in college. The account will weigh heavily on the school and the government's decision to give them grants and scholarships.
Once the beneficiary reaches the age of majority or termination, the assets can be transferred into their name. For many states, this occurs between 18 and 21 years old. Some states allow you to designate 25 years old when you open the account.
Once the transfer process is complete, you will no longer have access to the account. This means that you won’t have any control over what the beneficiary (your child) uses the money for.
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Should I Use a 529 Plan or UGMA/UTMA to Save for My Child?
There are no penalties for using UGMA or UTMA assets for expenses other than education, as mentioned above. However, that’s not the case for 529 accounts.
If you use 529 plan assets for purposes other than higher-education, vocational and trade schools, or K-12 tuition, you will be charged a 10% tax penalty on earnings. The only way to avoid this is to transfer the beneficiary status of the account to another qualified family member. For example, you can change the beneficiary of a 529 account from your son’s name to your daughter’s name.
You may want to analyze your savings strategy in case your child doesn’t go to college. But, feel free to leave the money in their 529 account in case they decide to go to school later. There is no age limit on using it.
Overall, there are a few things you should consider when picking between the two types of accounts. Ask yourself the following questions to help make your decision.
- Do you want to save for more than just educational expenses?
- Do you value the tax benefits of a 529?
- How does financial aid fit into your child’s after-college plan?
- Are you comfortable with your child having unlimited access to the funds once they are of age?
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When determining if you should start a UTMA for your child, you will want to consider the income thresholds for tax brackets. UTMA assets will be included in the custodian’s taxable estate until the child can take control of the account.
In order to invest your money in different securities, you will first need to open an account with a brokerage firm. However, most require you to have a Social Security number (SSN) or Individual Taxpayer Identification Number (ITIN) in order to do so. In addition, your child will need a SSN for tax purposes.
First, decide on a company that meets your needs. Be sure to look into what fees they charge and what types of investments they offer. The next best step is to give them a call to see what their account requirements are. They will outline exactly what you will need to do to open an UGMA or UTMA account for your child. You may even rely on your financial planner for a recommendation.
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Be sure to understand how an UGMA or UTMA account aligns with your financial plan, and if you are eligible to contribute to one. There are many unique characteristics to these accounts such as ownership, tax implications, unlimited contributions, and transfer guidelines. However, if you only wish to save for educational expenses for your child, a 529 plan may be a better fit for you due to the tax benefits. Reach out to a financial planner and tax professional to review your options and to see how you would be affected by making contributions.