What Are UGMA/UTMA Accounts?

It’s a goal of most parents to make sure their children are set up to be successful in the future. For many, this involves saving for college or setting up a fund for when they become an adult. One catch-all way to accomplish this is with a UGMA or UTMA account, a custodial account that allows you to gift your child money.

In this article, we’ll explain how UGMA and UTMA accounts work. You’ll learn how to contribute funds and how your child will be able to take distributions later on. We’ll also explain how custodial accounts differ from those that are solely for college, such as a 529 plan. Finally, we’ll outline the pros and cons of investing in a custodial account.

How UGMA/UTMA Accounts Work

Uniform Gifts to Minors Act (UGMA) or Uniform Transfers to Minors (UTMA) are custodial brokerage accounts that hold funds for a child until they become a legal adult, which varies from state to state. They serve as a way for parents (or other adults) to specifically put money away for children, which they can grow by saving and investing. Unlike other accounts, like a 529 plan or Roth IRA, any funds you contribute to the account are wholly owned by the minor.

Both types of accounts originate from state laws. UGMA accounts are available in every U.S. state, allowing adults to gift money to minors. UTMA accounts, which are more recent, may be opened in any state besides South Carolina and Vermont. This type of account is similar to UGMA but allows you to transfer additional assets to a child, such as real estate or inheritances.

UGMA and UTMA accounts allow any U.S.-residing adult to contribute to them. For instance, a grandparent or a close family friend may give the minor money if they wish. While the assets within the account are in the minor’s name, an adult custodian must still run the account until the child becomes an adult. Currently, individuals may contribute up to $18,000 before incurring a gift tax (married couples may contribute up to $36,000).

When it’s time to withdraw funds, be aware that, as of 2024, earnings up to $1,250 are protected against federal income tax. However, any amount after that is subject to taxes at the child’s rate.

UGMA/UTMA vs. 529 Plan

UGMA/UTMA accounts and 529 plans are fairly similar in that they both allow parents to save and invest money on a child’s behalf. However, the latter’s purpose is much more limiting. 529 plans exist solely as an investment vehicle to pay for a child’s higher education.

While parents may use UGMA/UTMA accounts to help pay for college, the child may use these funds for any purpose they see fit. Additionally, unlike with a 529 plan, the minor owns the funds in the account.

You should be aware, though, that UGMA/UTMA accounts have a significant impact on a child’s ability to receive financial aid for college. This is because the funds within the account count toward a student’s assets of their FAFSA application, which can hurt their eligibility for a loan. 529 plans, on the other hand, count as a parent asset, which has less of an impact on one’s ability to receive aid.

Before planning for your child’s college, especially if they’re still very young, you should consider speaking with a financial advisor. There may be a place for both a UGMA/UTMA account and a 529 in your plan, especially since the former has more flexibility beyond just education. However, because of their impact on financial aid, your advisor may only recommend a custodial account if your child either won’t apply for loans or decides to withdraw before doing so.

Pros and Cons of UGMA/UTMA Accounts

UGMA/UTMA accounts offer a flexible way to gift money to minors. They give adults the ability to build a sizable sum through both saving and investing. However, while this is the case, there are downsides one should consider. For instance, contributions are irreversible and, while the purpose of these accounts is flexible, this also means the child can use (or squander) the money as they see fit.

Below are the pros and cons you should consider before investing in a UGMA/UTMA account:

Pros

• Able to use for any purpose
• Any U.S. adult can contribute
• No contribution limits (any amount over $18,000 is subject to gift tax)
• Allows the custodian to grow money over time via investing and compound interest

Cons

• Contributions are irreversible
• Negatively impacts the child’s ability to receive financial aid for college
• Earnings are subject to federal income taxes after a certain amount
• Parents have no say about how the child uses the money once they’re able

When to Open a Custodial Account

While UGMA/UTMA accounts are immensely useful for setting aside funds for a child, they may not be for everyone. It’s important to understand that they are more of a catch-all type account than similar ones, such as a 529 plan or Coverdell ESA account, which are specifically for education. UGMA/UTMA accounts give minors control over the funds once they turn 18, letting them decide how they want to use them.

Not every child will end up going to or completing college. In this scenario, a UGMA/UTMA can be very beneficial because it gives them a nest egg to use for any purpose. Whether that’s putting a down payment on a house or putting it into a retirement account, it can help them pave the way for their future.

Because of their impact on financial aid, UGMA/UTMA accounts likely aren’t the best option for college planning. On the other hand, parents who simply want their children to have more money as they start their lives would be wise to start such an account. As mentioned above, you should consult with a financial advisor before opening a custodial account to ensure it’s the right fit for you and, most importantly, your child.

How to Open an Account

UGMA/UTMA accounts are relatively easy to establish and set up for parents. To do so, you must open it through a brokerage firm, such as Fidelity, Vanguard, or Merrill Lynch. Be aware that you’ll need to provide your child’s social security number because the assets will be in their name. Then, if you’re the custodian, you will be responsible for managing the account until your child becomes an adult.

Before opening an account, it’s a good idea to speak with a financial professional to ensure you’re doing everything the best way possible. You may even consider hiring an investment manager to assist with managing the account. To find an advisor near you, you can use this free matching tool, which will connect you with up to three vetted professionals.

Frequently Asked Questions

Can a UGMA/UTMA account be transferred to a 529 plan?

You can move funds from a UGMA/UTMA account to a 529 plan; however, the process can be a bit complicated. First, you must understand that the child owns the funds within the account. If you transfer it to a 529 plan, they will still own it, meaning you won’t be able to name another beneficiary if need be. If they choose to withdraw the funds for any reason besides college, they’ll incur a 10% penalty and must pay ordinary income taxes.

The process for transferring money from a UTMA/UGMA to a 529 plan may vary depending on the brokerage firm(s) you’re using. Be sure to contact the company to find out exactly how the move works before acting.

What is the difference between a UTMA and a UGMA account?

Uniform Transfers to Minors (UTMA) are custodial accounts that allow any adult who is a U.S. citizen to give money, property, or inheritances to a minor. This type of account is available in every U.S. state outside of South Carolina and Vermont. Uniform Gifts to Minors Act (UGMA) accounts function in the same way but are more limiting because they only allow people to gift money. UGMA accounts are available in all U.S. states.

Why are UGMA and UTMA accounts beneficial?

UGMA/UTMA accounts allow adults to thoughtfully contribute funds for a child’s future. A key benefit of these accounts is that a child may use them for any purpose, unlike a 529 plan, which is only for educational expenses. Additionally, these custodial accounts don’t have a set contribution limit.

What happens to a custodial account when a child turns 18?

When a child becomes a legal adult (the age can vary by state), they gain control of the account. From then on, they may use the funds in any way they see fit. This, in some ways, might be a bit of a downside if adults had a vision for how the money should be spent, such as for college. However, it also provides extra flexibility if a child wants to use it for other milestones, such as buying a house or saving for retirement.

Does investing in a custodial account affect financial aid?

The funds in a UGMA/UTMA account can significantly affect a child’s ability to receive financial aid. This is because they own the assets within it, reducing their eligibility for loans. For this reason, it may be worth it for the account holder to withdraw the funds before applying for loans. Be sure to talk to a financial advisor if your primary goal is to plan for your children’s college, as there may be more beneficial options than a custodial account, such as a 529 plan or Coverdell ESA.