UTMA: a flexible alternative to education costs and more

Editor’s note: This is the fourth article in a six-part series focusing on paying for education using smart financial and estate planning. Part one is Direct Tuition Payments: A Tax-Efficient Way to Pay for School. Part two is 529 Plans: A Powerful Way to Address Rising Education Costs. Part three is Coverdell Education Savings Accounts: A Deep Dive. Future articles will focus on education trusts and family loans.

If you’re thinking ahead about how to pay for a child’s education, you’re doing the right thing. As the cost of education continues to rise for colleges, graduate schools, and even private K-12 schools, smart financial planning can help you maximize your investments in education. Today, there are a number of ways to take advantage of tax breaks and other benefits while saving for education.

One option worth considering is a custodial account through the Uniform Transfers to Minors Act, or UTMA*. A UTMA is a type of savings account set up for a minor to use at his or her own discretion when he reaches the age of majority in his country (usually 18 or 21). There are no restrictions on the types of expenses that can be paid through a UTMA. While it can be used for tuition, room and board, books, etc., it can also be used to pay for a car, a down payment on a house, or other expenses of the beneficiary’s choice.

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A UTMA has ample investment opportunities

The UTMA custodian typically has a wider range of investment options as they are not limited to investments on a state-sponsored platform or a particular banking platform. The account can be invested in a variety of assets, including individual stocks or bonds, mutual funds, ETFs and other vehicles.

While some families may prefer the flexibility of a UTMA, it does not offer the same tax benefits as a 529 plan or a Coverdell account, other popular savings forms. Income from assets in the account is taxable at the child’s tax rate up to a certain threshold, after which the remainder is taxed at the parent’s tax rate. Depending on your or the beneficiary’s tax bracket, this may make a UTMA less attractive.

There are no restrictions on contributions to a UTMA, which can come from parents, grandparents, other relatives and friends. It is important to note that contributions to a UTMA, like Coverdells and 529 plans, are subject to federal gift laws.

A UTMA may have consequences for financial aid

Although the adult owner acts as the custodian of a UTMA until the child reaches the age of majority, the funds in the account are considered the child’s assets and must be included in the FAFSA (Free Application for Federal Student Aid), which may increase the cost reduce. amount of financial support received.

Unlike a 529 plan and a Coverdell, a UTMA is not portable or transferable to another child or type of vehicle. However, given the added flexibility regarding the unlimited potential use of UTMA funds, it is unlikely to remain unused.

Advantages:

There are no restrictions on the type of education expenditure it can be used for
Can be used to pay for non-educational expenses if desired
Investable in a wide range of options (not limited to the sponsoring state or bank)

Considerations:

Income earned in the UTMA account is subject to taxes annually
Contributions are subject to federal gift tax laws and restrictions
May reduce financial aid (the bill is included in the FAFSA calculation)
Not transferable to another beneficiary and not transferable
Minors can withdraw the entire balance for any reason once they reach majority status

As tuition costs continue to rise, having a robust savings strategy is essential. A UTMA account offers a lot of flexibility, allowing the money to be used for a wide range of expenses. Although it lacks the tax benefits of some other popular savings options, its versatile investment choices and unlimited contribution potential make it an attractive choice for some families. By evaluating all available options, you can tailor your savings strategy to your child’s future goals and financial needs.

My next article will be about paying for education through an education trust.

*Much of what is discussed here also applies to UGMA accounts (Uniform Gifts to Minors Act), but for the purposes of this article we will focus on UTMAs.

This article was written by and represents the opinions of our contributing advisor, not the Kiplinger editorial staff. You can consult the details of advisors at SEC or with FINRA.

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