A minor child`s deposit account must be established in accordance with your state`s Uniform Law on Gifts to Minors (UGMA) or the Uniform Law on Transfers to Minors (UTMA). Under current state law (most states now have UTMA plans), your child will gain full legal control over the account once they are no longer a minor. This will happen somewhere between the ages of 18 and 21 (in most states, it`s 21). A deposit account can be a great way to give a financial gift to a child, whether it`s yours, a relative, or a friend. This type of account, created under the Uniform Law on Gifts to Minors (UGMA) or the Uniform Law on Transfers to Minors (UTMA), is created by an adult for the benefit of a minor. Contributions to a deposit account are not tax deductible. A custodian account is much easier and less expensive to set up than a trust fund. The purpose of the UGMA and UTMA regulations was to allow adults to transfer assets to minors without the need to establish a special trust to allow such property. Profits from the account are only taxed when they are sold – and because you are investing in a child`s long-term future, you will not sell many assets on an annual basis.

So, most of your taxable profits come from compound interest payments or dividends. In addition, the beneficiary of the depositary`s account cannot be changed, while the beneficiary of a 529 college plan can change with certain limitations. A deposit account is created in the name of the minor. Since the account is irrevocable, the beneficiary of the account cannot change and no gifts or contributions to the account can be cancelled. Importantly, years ago, a child`s deposit account could be an effective tax exemption because the child`s income was taxed at the child`s low rates. Today`s tax rules make it difficult for custodian accounts to achieve significant tax savings. Deposit accounts are not as tax protected as other accounts. To mitigate a tax grab, a custodian can transfer funds to an eligible 529 plan. To do this, however, the custodian bank must liquidate all non-monetary investments in the deposit account.

For most families, this translates into fairly significant tax savings. But there are a few important points to keep in mind here, so we`ll quickly break down all the rules around custody taxes. Probably the most common reason parents create deposit accounts is to save for a child`s college, which they think is a tax-smart way. Or a deposit account could be set up to hold generous annual gifts to your child from good old grandfather Henry. The potential problem: Some parents don`t realize that deposit accounts have significant tax and legal implications. This column explains the most important things to understand. As a helmsman, I will first address the tax issues. But the legal issues are actually more important. So, please, read the whole thing. The most important tax rule for custodian accounts that you need to understand is the IRS – « child tax. » The child tax is used to tax a child`s capital gains and unearned income accumulated in a taxation year. Ownership of the deposit account by a minor can be a double-edged sword.

Because assets are considered assets, they can reduce a child`s financial support when applying for university admission. It could also reduce their ability to access other forms of state or local aid. Since all assets held in a deposit account are the legal property of the child`s beneficiary, this means that much of the unearned income generated by each custodian account is taxed at the child`s lower rate. When you create a deposit account for a child, you often have the option to appoint a successor who can take control of the account if something happens to you. In 2016, anyone can offer each recipient a cash donation of up to $14,000 (or $28,000 per pair of split donations) without incurring federal tax on donations. (This rule applies to custodian accounts as well as other forms of gifts.) Understand the pros and cons of a custodian account Any money deposited in a custodian brokerage account will irrevocably become your child. This means that you cannot withdraw money for your personal use after contributing it. While you can technically withdraw money from a custodian`s account before your child reaches legal age, you can only do so for the direct benefit of the child. This means that all purchases must help your child, for example. B by buying new school clothes or orthodontic appliances. Keep in mind that any funds you withdraw can also create taxable profits for your child and the money withdrawn doesn`t have as much time to grow.

With a Roth IRA guardian, an adult can create an account and deposit a child`s earned income. Since all assets held in a custodian brokerage account legally belong to your child, they weigh more heavily in the calculations of the Free Federal Student Aid Application (FAFSA). Funds held in 529 accounts are considered less robust. However, keep in mind that even the money in a child`s savings account or checking account is weighed heavier than the money in a 529 plan. Anyone – relatives, relatives, friends – can deposit any amount of money into a deposit account. Due to gift tax laws, many limit contributions to $15,000 ($30,000 for married couples) per child per year. Since the money placed in a UGMA/UTMA account belongs to the child, the income is usually taxed at the child`s tax rate – usually lower and not the parent`s rate. For some families, this savings can be substantial.

Unlike 529 accounts, custodian brokerage accounts have no contribution limits, which means you can invest as much money as you want for your child`s future. That said, those who give large gifts can face donation tax every time their contributions to a recipient exceed $15,000 per year. So if your 15-year-old earned $1,500 painting apartments during the summer and their deposit account generated $1,050 in capital gains, that account would still be below the 0% threshold for unearned income. Custodial accounts can help you set your child up for financial success. Unlike a savings account that you might open for your child, these brokerage accounts allow your child to take advantage of the wealth accumulation potential of the stock market. And unlike 529 accounts, which typically offer some exposure to the markets, custodian brokerage accounts can be used to fund much more than just studies. This lower rate applies up to a certain threshold, and then anything above the threshold is taxed at the highest rate of the adult guardian. .