Understanding Custodial Accounts 101

Understanding Custodial Accounts 101

September 25, 2023

Custodial accounts differ from other types of accounts in that an individual controls the account for the benefit of a minor, who is the beneficiary. It's important to note that the individual managing the custodial account acts as a fiduciary and is legally bound to act in an ethical manner and in the best interest of the beneficiary. Here are some things to know about custodial accounts:

  • Custodial accounts are held at financial institutions, mutual fund companies, brokerage firms, and other financial organizations.
  • Custodial accounts do not require distribution at set times.
  • There are no income or contribution limits or withdrawal penalties.
  • The account's assets pass to the beneficiary when they become an adult.
  • Each state may have rules on custodial accounts, who can administer them, and the age the beneficiary can access the account's holdings.
  • Custodial accounts may provide tax benefits.
  • UGMA and UTMAs allow adults to transfer assets to minors without establishing a special trust to enable ownership rights.

The reasons an adult may open a custodial account can vary, teaching the child how to manage money or saving for the child's future goals, such as education or retirement. There are two types of custodial accounts:

Uniform Transfer to Minors Act Accounts (UTMA)- UTMA accounts can hold real estate, art, cash, mutual funds, stocks, bonds, annuities, and insurance policies. UTMA accounts can be set up and administered in any U.S. state except South Carolina and Vermont. Here are some other things to know about UTMA accounts:

  • The beneficiary has control of the account at age 21.
  • There are no contribution limits.
  • Wealth transfer strategies may use UTMA accounts to transfer assets at death.

Uniform Gift to Minors Act Accounts (UGMA)- UGMA accounts limit asset types to cash, insurance policies, bonds, mutual funds, and stocks, but not stock options. UGMA accounts can be opened and administered in any U.S. state. Here are other things about UGMA accounts:

  • Depending on the state, a beneficiary has control of the account between ages 18-24.
  • UGMA account distributions are taxed at the beneficiary's tax rate, referred to as 'the kiddie tax rate,' at a lower amount up to a specific rate.
  • UGMA accounts are irrevocable.
  • There are no tax benefits to the donor contributing to a UGMA account.

Custodial accounts are flexible when it comes to rules and regulations. However, you must consult your financial and tax professionals to determine which is suitable for your situation. If you intend to use custodial accounts to pass assets to your heirs, consult your legal professional before deciding which type of account to use.


Important Disclosures:

The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual. To determine which investment(s) may be appropriate for you, consult your financial professional prior to investing.

This information is not intended to be a substitute for specific individualized tax or legal advice. We suggest that you discuss your specific situation with a qualified tax or legal advisor.

All information is believed to be from reliable sources; however, LPL Financial makes no representation as to its completeness or accuracy.

This article was prepared by Fresh Finance.

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