Whether you’re a parent, a grandparent, extended family, or a family friend, giving the gift of education is an excellent way to secure the academic future of the children in your life. There are different types of accounts you might consider, including a 529 or a UTMA account (which stands for Uniform Gift to Minor Account). Let’s take a closer look at these accounts and how to plan for them.
What is a 529 account? These investment accounts offer tax benefits when funds are utilized for education costs, not only for college, but for private school tuition for grades K-12 up to $10,000/year. Earnings in the account are not taxed when withdrawn for qualified education expenses. Read this article by CapitalGroup, a popular 529 program provider, which gives some more background into these accounts and what they can pay for. Beginning in 2018, withdrawals for fees, books and supplies were allowed. Some states offer additional tax breaks. For a 529, there is an account owner (you) and one beneficiary (child). As the account owner, you retain control over the funds and any disbursements.
According to Fidelity.com, if your child has an existing 529 account, then anyone can add money into it, thus making it an excellent way for loved ones to contribute by using the power of investing to have your gift grow over time. A 529 account can be a great vehicle for estate planning purposes, as an individual can gift up to $15,000 per year according to the annual gift allowance limit (which is capped at $15,000 for 2021) into the account without paying a gift tax and the money you gift is no longer counted as a part of your estate. Married couples are able to gift this amount individually, and between them, can gift up to $30,000 a year.
If you have more than one child with 529 accounts, you might consider rolling over some funds from one account to another. A 529 can only have one beneficiary at a time, so if a sibling needs additional funds, money in one account could be used for the benefit of another. The IRS allows for a tax free rollover once per year.
Uniform Transfer to Minors Act (UTMA) and Universal Gift to Minor ACt (UTMA) are accounts where parents or guardians are the custodians of the account until the child comes of age at 18 to 21 depending on the state where the account holder lives. Once the child is an adult, the account becomes their asset alone. Even if you open this account for your beneficiary when they are a minor, the account value belongs to them. These accounts do not offer the same tax benefits as 529 accounts. BusinessInsider.com has an excellent article with more information on accounts such as these.
UTMA accounts differ from 529 accounts in the simple fact that they can be used by the child for any expense, and not only for education. If you want your gifts to be used solely for college, this might not be the right account for you or the beneficiary. Also keep in mind that contributions to a UTMA/UGMA account are irrevocable.
Finally, consider the impact to funds held in a 529 account versus a minor’s savings when opening an account. When applying for student financial aid custodial-owned assets, money in a 529 account will have a maximum 5.64% reduction in need-based financial aid while student owned assets, money in the UTMA/UGMA account, reduces need-based financial aid by 20-25% of the asset value.
Handling Scholarships & Siblings
If your child wins a scholarship, don’t worry. You won’t lose your 529 account. Program guidelines allow you to withdraw funds up to the amount you would have paid without the scholarship. If your student graduates without using the entire account balance, consider naming another beneficiary on the account (likely a younger sibling), or rolling over the amount to another sibling’s 529 account. Alternatively, you can withdraw the remaining account balance and simply pay the 10% tax penalty for non-qualified withdrawal.
Putting it All Together
Gifting money to your child in a 529 or UTMA account is an excellent way to secure your child’s educational future. With a little bit of research and a great amount of patience over the years, you’ll be able to open an education account the whole family can pour into that will grow along with your child.
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