UGMA/UTMA Accounts – Pros and Cons

If you have young children and are thinking of ways to pay for their college education, you may be considering an UGMA or UTMA account. I know, you’re probably thinking, “what the heck is an UGMA or UTMA?” Well, it’s an acronym for the Uniform Gifts to Minors Act (or Uniform Transfers to Minors Act, in some states). The difference between UGMA and UTMA is that an UTMA law allows virtually any kind of asset, including real estate, to be transferred to a minor.
An UGMA law limits gifts/transfers to the following: bank deposits, securities (including mutual funds), and insurance policies.

UGMA/UTMA allows a minor to own securities in an account without having to establish a special trust. The assets in the UGMA account will become available to the minor when they reach the age of majority. The age of majority is usually 18 years of age (it’s 18 in Virginia, Maryland, and the District of Columbia). Though, it varies in other states (for example, it’s 19 in Delaware and Alabama).

Pros of an UGMA/UTMA Account

Your income taxes could be lowered by transferring income-producing assets to your child, who is likely to be in a lower tax bracket, according to Franklin Templeton Investments. For example, the first $1,000 of the account’s unearned income is exempt from federal income tax if the child is younger than 18 at the end of the tax year. The second $1,000 of unearned income is taxed at the child’s rate. Any unearned income over $2,000 is taxed at the higher of the child’s or parent’s marginal tax rates, according to the Franklin Templeton Investments article.

For another tax tip I published an article a couple months ago on how to properly utilize a Roth IRA. Check it out here.

You can contribute as much as you want to the UGMA/UTMA account. Though, keep in mind that if you contribute more than $14,000 per year ($28,000 for a married couple filing jointly) you’ll have to pay the federal gift tax. Also, anyone can contribute to the UGMA/UTMA account on behalf of your child.

Cons of an UGMA/UTMA Account

A big drawback is that all assets transferred into an UGMA account law are irrevocable transfers. This means that your child owns the assets, and the child has the authority (not the parent) on how to use the funds once the child reaches the age of majority. I have worked with several clients who regret creating this type of account for their child due to the loss of control of the assets once the child reaches 18/21. There are alternative types of college funding devices (such as 529 plans or state sponsored education programs) that permit the parent to retain control of the funds even after the child reaches the age of majority. The parent can even transfer the account to another beneficiary which provides increased flexibility which we find is important to our clients.

Another major drawback is that an UGMA account can adversely affect your child’s ability to qualify for financial aid. As mentioned above, your child owns the assets in the UGMA/UTMA account so if their assets are at a certain level, they could be disqualified from receiving federal financial aid. Depending on the amount of assets you invest in the account, this could have a detrimental impact on your child’s ability to fully pay for college expenses.

To get more information about UGMA accounts, consider speaking to an experienced estate planning attorney.