Is an UTMA a good way to save for my child’s college education? I’m weighing all my options.
If we’re talking about straight college funding, then I think there are better options available to you than a UTMA.
For those of you reading along, you may be asking yourself, “what the heck is an UTMA?” Let me clear that up for you. UTMA stands for Uniform Transfer to Minors Act. These types of accounts allow the transfer of nearly any type of asset to be placed in the child’s name. If you or a grandparent wants to give your kid $10,000 for college, you could theoretically place it in the UTMA until it’s needed. Great, right? Well, maybe not so fast.
Here are some things to consider:
UTMA accounts are owned by the minor but controlled by a custodian. Now, you could certainly choose to be the custodian. However, you’re only the custodian until your kid reaches the age of 21 (but could be as high as 25 in some states). Then what? Well, they own the account and you no longer have any control over it. If you’ve been able to accumulate a nice sum of money in the account and want it to go towards college expenses but your kid wants it to go towards spring break in Cancun, there isn’t a thing you can do about it. They own the account now and can do whatever they want with the money.
UTMAs do offer some tax benefits, but not like another college savings vehicle like the 529. UTMAs will allow a portion of the income generated by the investments/holdings to be taxed at 0% because of the child’s tax rate. Beyond that, the taxes will be reasonable since the rates are based on trust taxes. In comparison, however, contributions to 529 accounts grow tax deferred and distributions are tax free if they are used for qualified educational expenses.
One more thing to consider… An UTMA account will have a greater negative impact on any opportunity for financial aid than a 529 will. Why, because your child owns the UTMA. Assets owned by the student are assessed at a much higher rate than assets owned by the parents. In this case, an UTMA account will be assessed at 20% of the value of the account. So, if the account has $10,000 in the UTMA, that means your kid’s eligibility for need based assistance will decrease by $2,000. That same $10,000 in a 529 account owned by a parent will be assessed at 5.64% at worst and therefore decrease eligible need based assistance by $564.
I know I said one more thing to consider, but this is the last one, I promise. Contributions to UTMAs are irrevocable. Once they’re made, you’re not getting them back. Any money contributed to the account must be used for the benefit of the child, end of story. 529 contributions, on the other hand, can be transferred to another family member, used for yourself, or even used for non-qualified expenses so long as you’re willing to pay a bit of tax and penalty. The point is, you’re always in control of the 529. The UTMA, not so much.
Are UTMAs good for anything? I suppose, but college funding isn’t where they really shine. Stick with an account that was built for the purpose you’re looking for and use a 529. Not only will you have more control over the money, get some great tax treatment, and not shoot yourself in the foot with financial aid, but depending on the state you live it, you may get a state income tax benefit as well. If you Google your state and 529, you’ll most likely be given a link to the state-sponsored 529 page. There, you’ll be able to find out all sorts of information including any potential state income tax benefits.
I’m glad you’re thinking about starting to save for your child’s college, Ryan, and I hope you find the right tool for the job.
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