how a ugma account works
a ugma account functions as a type of custodial account it is designed to hold and protect assets for the beneficiary the donor can appoint themselves another person or a financial institution in the role of custodian the custodian has the authority to buy stocks bonds mutual funds and other securities on behalf of the minor 2ugma accounts can be opened through a bank or brokerage institution friends and family can make contributions to the accounts which carry no contribution or income limits contributions are made with after tax dollars which means donors don t receive an income tax deduction deposits are irrevocable this means that they become permanent transfers to the minor and the minor s account so the transfer cannot be reversed 3ugma assets are typically used to fund a child s education but the donor can make withdrawals for just about any expenses that benefit the beneficiary there are no withdrawal penalties however because ugma assets are technically owned by the minor they do count as assets if they apply for federal financial aid for college possibly decreasing their eligibility 4once they reach the age of majority in their state minors are granted full access to their ugma account at that point they may use the funds as they please 1custodians have a fiduciary duty to manage the account in the beneficiary s best interest 5special considerationsthe minor or beneficiary is considered the owner of all assets in a ugma account and the income they generate for tax purposes but the earnings can be taxed either to the child or the parent reporting requirements depend on the amount of income the account generates and the beneficiary s age a ugma can affect a donor s lifetime gifting limits for tax purposes should a donor who acts as the custodian die before the custodial property is transferred to the minor the entire custodial property is included in the donor s taxable estate up to 16 000 per individual can be contributed free of gift tax for the calendar year 2022 this amount increases to 17 000 for the 2023 tax year 6uniform gifts to minors act ugma vs uniform transfers to minors act utma the terms ugma and uniform transfers to minors act utma are usually used interchangeably in fact the utma which was established in 1986 is an extension of the ugma 1 there are some unique similarities between the two in that they both require that donors name a custodian this individual manages and invests the assets until the beneficiary comes of age and both contend that any assets belong to the minor once gifted having said that there are some distinctions between the ugma and utma custodial accounts set up under the utma can contain any kind of tangible or intangible asset including real estate works of art and intellectual property in contrast ugma accounts are limited to financial assets such as cash stocks bonds and insurance products policies annuities 1the utma allows children to take advantage of investing without having any associated tax burdens the gift tax exclusion provided by the internal revenue service irs was up to 16 000 per person for 2022 17 000 for 2023 for a qualifying gift including gifts to minors 6ugma vs 529 plansas noted above ugma accounts come with no withdrawal penalties this means that accounts can be used to pay for various expenses including the costs to fund an education but there is another type of account that parents can use to save for their children s studies notably the 529 plan a 529 plan is a tax advantaged savings account that is intended solely for qualified educational expenses including tuition equipment and certain living costs originally meant for just postsecondary education parents can now use 529 plans for any qualified education expenses beginning in kindergarten it also covers apprentice program expenses 7here s how they work anyone can open an account including parents and grandparents unlike ugma accounts there are contribution limits for 529 plans which vary by state the limits tend to be very high so many parents don t have to worry about hitting the ceiling the money invested in a 529 plan is allowed to grow on a tax deferred basis any withdrawals made from the account are tax free provided they are used for qualified education expenses 529 plans come in two different types ugmas are usually limited to publicly traded financial assets which means they cannot invest in speculative instruments like derivatives or buy on margin advantages and disadvantages of ugmathere are a number of benefits and drawbacks that come with using the ugma to help save for a minor s future we ve listed some of the most common below one of the main benefits of having ugma accounts is that they re simple easy to understand and very easy to set up you can do so through a financial institution or a brokerage firm and they can be set up by anyone including family or friends ugma accounts come with no contribution limits just keep in mind that there is a gift tax imposed by the irs which does place caps on how much individuals can set aside as a gift to others similarly there are no withdrawal limits or restrictions this means that money can be taken out at any time and for whatever reason 3there is more flexibility when it comes to how you can use a ugma account unlike other plans you aren t limited to using the funds or assets for things like education one of the biggest advantages is that they allow parents and others to skip the trust process the assets placed within a ugma account automatically become the property of the minor which means there s no question of ownership all ugma accounts are irrevocable as such once you transfer assets to the account they become the property of the minor and are no longer yours 3 this means that you can t change your mind so once the transfer is complete it s there for good ugmas can be used against the beneficiary if they want to get any type of financial aid in the future including student loans that s because they re considered the child s property if the value of the account is fairly substantial it may decrease the amount of aid they may receive if they get any at all 4there are no tax benefits to owning a ugma account the irs doesn t allow any tax credits or tax deductions for setting aside money in a child s ugma like it would for a 529 plan easy to understand and set upno contribution and no withdrawal limitsprovides more flexibilityskips the trust processirrevocablemay change or eliminate eligibility for financial aidno tax advantagescontribution limits and taxesas noted above there are no actual limits to how much you can contribute to a ugma account but there is an important consideration when it comes to these types of accounts anything you contribute to your child s ugma account may be considered a gift the irs puts caps on how much anyone can gift another individual for 2022 parents can gift as much as 16 000 to their children without any tax consequences that amount was adjusted for inflation for the 2023 tax year to 17 000 6but what about taxation under certain circumstances parents may report their children s ugma accounts on their own tax returns and take advantage of the kiddie tax or the tax on a child s investment and other unearned income this means that parents can report their child s income on their own tax return if the child s unearned income including ugma earnings was less than 2 300 in 2022 2 500 in 2023 and they were no older than 19 or 24 if a full time student 89in this case the first 1 150 of the child s unearned income is treated as tax free increasing to 1 250 in 2023 1011 the next 1 150 is taxed at the child s tax rate anything exceeding 2 300 is taxed at the parent s tax rate if such an election is not made or if the child s unearned income exceeded 2 300 at the end of the tax year the minor would have to file a tax return subject to kiddie tax rules 8