If you open a savings account for your minor child under the Uniform Gifts to Minors Act (UGMA) or the Uniform Transfers to Minors Act (UTMA), your child actually owns the account. As custodian of the account, you'll maintain control over the funds until your child reaches the age of majority. Your child (as owner of the account) is taxed on the earnings the account makes ... not you. Even though you are not responsible for paying taxes on the earnings from your child's UGMA/UTMA, you can choose to pay these taxes on your child's behalf.
Earnings on custodian UGMA/UTMA accounts are not taxable on a parent's income tax return, even though the parent may elect to pay these taxes.
Claiming UGMA Accounts
In many states, UGMA accounts are really UTMA accounts. The two account types are similar, although the UTMA laws allow the account to own additional types of investment. In either case, the account is designed to be owned by the child but managed by a custodian.
When the child reaches the age of majority, she automatically gets ownership of the account. However, it is important to note that, during their childhood, income earned above $2,100 via the account will incur uniform gifts to minors taxes at the custodian's income tax bracket.
Assessing Taxes and Deductions
If you prefer, you can pay the taxes on your child's UGMA/UTMA investment income on your tax return as long as you meet the Internal Revenue Service rules. Your child must be under 19, or under 24 if a full-time student, only have income from interest and dividends, and have a gross income of $9,500 or less. While this may leave you paying more taxes, it will save the inconvenience of filing separate returns.
Putting your child's money in a UGMA/UTMA account could have ramifications if you are using it to pay for college. Contributions to UGMA/UTMA accounts are taxable, while contributions to 529 savings plans aren't. Earnings in 529 plans are tax-free as long as they're spent on educational expenses, while UGMA earnings are taxed once your child uses up her standard deduction.
A UGMA account can also limit your child's ability to receive financial aid, while a 529 plan is counted as your asset and has less impact on financial aid eligibility.
Exploring Filing Options
Parents electing to pay their child's UGMA taxes will use IRS Form 8814. This form should be completed and attached to IRS Form 1040 during tax filing. Failure to include this form could result in penalties. With that in mind, individuals who may have additional questions about this process should consult with a CPA well in advance of their filing deadlines in order to ensure that they have all of the information they need.
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