If you want to save money that can be used by a child or grandchild when they become an adult, a custodial account is an option. The custodian that is named in the document will manage the assets on behalf of a child until the child reaches the age of majority.
There are tax benefits that go along with utilization of these accounts, and we will provide an overview in this post.
Uniform Gifts to Minors Act (UGMA) Accounts
One of these accounts is the UGMA account. You fund this type of account after you pay taxes on the earnings, so distributions of the principal are not taxable. The earnings are subject to taxation, but the guidelines are favorable.
The first $1150 is not taxable at all, and the second $1150 is taxed at the child’s rate, which is a modest 10 percent. These accounts can hold cash, life insurance policies, and securities that you would typically find in a mutual fund.
There are no contribution limits, and multiple different people can contribute into a UGMA account on behalf of a child. However, there is a $16,000 per person, per year gift tax exclusion, and gifts that are given that exceed this amount are potentially taxable.
However, there is an additional $12.06 million federal estate and gift tax exclusion, so you can use this to give gifts that exceed $16,000 per person tax-free.
The age of majority for UGMA accounts in Oklahoma is 21, and this is also the age at which the account must be terminated. Assets that are removed from this type of account can be utilized for any purpose.
The Uniform Transfers to Minors Act was established in 1986, and it has been adopted in most states, including Oklahoma. These accounts mirror the UGMA accounts in every way except for the fact that any type of property can be transferred into a UTMA account.
Another difference is the age of majority and termination. In our state, young people gain direct access to their UTMA accounts when they are 18 years of age.
Section 529 Savings Plans
If you want to set aside money that is definitely going to be used to pay for college tuition, a Section 529 savings plan may be the best choice. These accounts are also funded with after-tax earnings, but there is no taxation on withdrawals of the principal or the earnings.
There is one little bit of fine print that applies to the previous statement. There is no taxation as long as the assets are being used to cover approved college expenses like room and board, tuition, books and fees, and equipment that is required by the school.
In 2018, there was a change to the rules that allows for the utilization of the assets to cover grammar school and high school expenses as well, but there is a $10,000 per year limit.
Another advantage applies to student aid eligibility. The assets in a Section 529 account are considered to be the property of the person that funded the account rather than the student. As a result, a maximum of 5.64 percent of the assets can be counted for student aid eligibility purposes.
There is another benefit that will appeal to some people. If circumstances change after you fund the account, you can extract your money, but there are fees and penalties.
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At some point, the learning phase is over, and it is time to take action. If that time is now, you can call us at 405-843-6100 to schedule a consultation at our Oklahoma City estate planning office, and you can use our contact form to send us a message.
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