Can You Use an UGMA or UTMA Account to Save for College?

An UGMA or UTMA account can be used to save for college, but there are several reasons why it might be better to save for college in a 529 college savings plan. However, if it is more likely than not that the child won’t go to college, then an UGMA or UTMA account provides more flexibility than a 529 plan.

An UTMA or UGMA account is a bank or brokerage account that is “owned” by a minor child. Since children cannot own assets, the account is managed by a custodian until the child reaches the age of majority (18, 19 or 21, depending on the state). 

According to Sallie Mae’s report, How America Saves for College, only about 2% of parents are saving for college in an UGMA or UTMA account. 

Advantages of an UGMA or UTMA Account

One reason why some families may use an UGMA or UTMA account to save for college is convenience. Families can open an UGMA or UTMA account at their local bank or credit union, as opposed to just online. 

UGMA and UTMA accounts provide more flexibility than a 529 plan. 

• There are no contribution limits, other than the $15,000 annual gift tax exclusion. 529 plans have aggregate contribution limits that range from $235,000 to $529,000, depending on the state. 
• You can choose how to invest the money, including in Certificates of Deposit (CDs), stocks, bonds, mutual funds and ETFs. 529 plans are limited to a few dozen investment options selected by the plan manager. 
• You can use the money in an UGMA or UTMA account for any purpose, not just to pay for college. 529 plan distributions are subject to a 10% tax penalty if you don’t use the money to pay for qualified expenses. 

This flexibility can be helpful if the child might not go to college, such as might occur with a special needs child. 

See also: Differences Between UGMA and UTMA Accounts and 529 Plans

Disadvantages of an UGMA or UTMA Account

UGMA and UTMA accounts are not a good option if the main goal is to pay for college, especially if you intend to apply for financial aid. 529 plans have tax and financial aid advantages that are not available to UGMA and UTMA accounts.

You can’t change the beneficiary of an UGMA or UTMA account, while you can change the beneficiary of a regular 529 plan account.

With an UGMA or UTMA account, the parent loses control over the account when the child reaches the age of majority. The parent will not be able to stop the child from spending the money on whatever they want when they gain control over the account.

Use our Financial Aid Calculator to estimate your expected family contribution (EFC) and financial need based on student and parent income and assets, family size, number of children in college, age of the older parent and the student’s dependency status.

Impact of an UGMA or UTMA Account on Taxes

The earnings on an UGMA or UTMA account may be taxable. The earnings on an UGMA or UTMA account is considered unearned income. Unearned income includes interest, dividends and capital gains. 

• Under Kiddie Tax rules, the first $1,100 of a child’s unearned income is tax free. (2020 figures)
• The second $1,100 is taxed at the child’s rate. 
• Any unearned income over $2,200 is taxed at the parent’s rate. The unearned income is taxed based on the tax rates for ordinary income, not capital gains.

In contrast, earnings on a 529 plan accumulate on a tax-deferred basis, and qualified distributions are entirely tax-free. The earnings portion of a non-qualified distribution is subject to ordinary income taxes plus a 10% tax penalty.

Contributions to an UGMA or UTMA account are not tax deductible. Many states offer a state income tax deduction or tax credit based on contributions to the state’s 529 plan.

Impact of an UGMA or UTMA Account on Financial Aid

Money in an UGMA or UTMA account is reported as the student’s asset on the Free Application for Federal Student Aid (FAFSA).

Student assets reduce eligibility for need-based financial aid by 20% of the asset value on the FAFSA and 25% on the CSS Profile form. This is in contrast with parent assets and 529 plans, which reduce aid eligibility by at most 5.64% of the asset value.

There is a workaround for the unfavorable financial aid treatment of an UGMA or UTMA account, which is to move the money to a custodial 529 plan account before filing the FAFSA. Custodial 529 plan accounts are reported as parent assets on the FAFSA.

If you’ve determined that a UGMA account is right for you, Acorns can help you open an account in under 3 minutes. Acorns Early is an investment account for children, where you can set up recurring investments (either daily, weekly, or monthly) starting as little as $5. For families with multiple children, you can add additional kids at no added cost. 

See also: What is the Expected Family Contribution (EFC)?

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