Children's Savings Options: What to do with gifts to minors
When meeting with a local mothers' group, an interesting question arose: "Where do you put the money that your family and friends have gifted to your baby? I don’t want to mix it in with my money."
This question is quite common and is one that I personally deal with as well. From the perspective of both a parent and Estate Planning attorney, I wanted to offer a few options and a summary of each.
Children's Savings Account, UTMA, UGMA
These are considered “beginners” savings accounts. For children's savings accounts, the parent is joint owners of the account with the minor child and the child has access to the funds before 18. For UTMA or UGMA accounts, the parent is the custodian for the account and the child cannot access funds until turning 18. Parents can track, monitor, and manage the account up until the child turns 18. At that point, the child is entitled to full access to the funds. Depending on the particular child's maturity and the amount of money in the account, you may or may not be comfortable with him/her controlling the funds at 18.
What’s the purpose? This is set up to give children their own accounts, without giving them access to excessive amounts of money. For example, you could deposit money earned from an allowance or a part-time job such as babysitting. Your child may still need your permission to make withdrawals.
Checking accounts for minors often are not available until they are teenagers. A "teen" checking account allows the minor to make deposits, withdrawals, write checks, and can come with a debit card. This gives the teenager access and power to manage the account, though the parents may still have access and oversight.
What’s the purpose? These checking accounts allow teenagers to take ownership of their funds and be able to pay for discretionary expenses they may have. Personally, I had a checking account as a teenager that I deposited allowance and babysitting earnings into. The balance was kept relatively low so I had funds I could manage, but not too much money that it could be squandered.
529 Educational Savings Accounts
A 529 Account is a post-tax investment account that grows tax-free, if utilized purely for educational expenses, most typically for college savings, but now also for private pre-college education. There are penalties for withdrawal for other reasons, with a few exceptions (such as scholarships, death, enrollment in a U.S. Service Academy). 529 accounts set up by parents still have implications on a child's Expected Family Contribution (EFC) for financial aid eligibility.
What’s the purpose? This account is a tax-preferred investment strategy for educational expenses. Because of the time-value of money and compounding interest, you can save for college at a fraction of the cost if you start early and fund it regularly. However, this money can only be used for education or a tax penalty will apply.
Certificates of Deposit
Certificates of Deposit (CDs) provide a guaranteed interest rate but cannot be withdrawn for a specified time period (term or maturity date). If early withdrawal is required, a penalty would apply. If you forget about them, they often renew automatically for another term. There is often a minimum balance associated with these accounts.
One strategy is to set up multiple CDs with varying maturity dates, so that there is some flexibility with withdrawal. This is called CD laddering.
What’s the purpose? CDs provide an interest rate that is higher than a standard savings account, but with less flexibility for withdrawal. This could be a good strategy to incentivize a child for a slightly larger purchase or to introduce the concept of saving up for larger purchases. For instance, If your child wants a new computer, place $1000 in a CD for a year, and withdraw it at maturity if she “earned” it through the year. You could offer to “match” any contributions from his allowance or savings. Just be wary of carrying too large a balance.
I also spoke with Cindy Gaytan, Senior Personal Banker at Fremont Bank to learn more about other savings options from a banking perspective.
CUTMAs are set up so that the minor is the primary account owner and only an authorized Custodian is allowed to make withdrawals solely for the child’s benefit. Interest is paid to the child via his/her Social Security Number (SSN). When setting up the account, the parents can decide whether the child can access the proceeds when the child turns 18 years old or based on the parents' wishes.
What’s the purpose? The CUTMA is meant to ensure that minors will receive the assets they are entitled to. This could be very useful in a blended family scenario, wherein a grandparent may opt to contribute to a direct biological grandchild, whom is living in a step-parent household.
These accounts are set up when a minor child earns income, for instance, if the child is in the entertainment industry. Coogan accounts are set up with the child's SSN. Neither parents nor child can access the account until the child turns 18 and has sole access. These were created to protect the child from parental fraud.
What’s the purpose? If Gary Coleman or Jonathan Taylor Thomas had this vehicle available to them, they may still have retained a good deal of their wealth through adulthood.
-U.S. Savings Bonds
These can be set up in the child's name and SSN. There can be a payable on death beneficiary of the parents if the child passes first. This is used for more long term, stable investments.
What’s the purpose? Bonds are known for being safe investments that can be held onto for long time periods.
-Other considerations when selecting banking options:
· Maintenance Fees (Can it be waived with a minimum balance or direct deposit?)
· Compounding Interest – the earlier you save, the longer it has to work for you. Some financial planners refer to this as the “cost of waiting.”
· What types of access and oversight the parent can have
· How much money you plan for the account to have
My personal strategy:
No option is perfect for everyone so it's important to know the goals for the money (short-term and long-term), the balance you anticipate the account will reach, and what the money will be used for.
For my family, which includes a 3 1/2 year old daughter and 1 1/2 year old son, we are currently taking this strategy. Monetary gifts to the kids are put into their 529 accounts. We also regularly contribute to their 529 accounts. We do not plan to have all of the funds for their college expenses paid through their 529 accounts and will have funds from other accounts used as well. The children do not have their names on any bank accounts.
Our daughter has expressed interest in a piggy bank and she gets to put coins she finds into the bank. Her goal right now is to buy a "Curious George" book and when she has saved enough, she will get to open the piggy bank. When she is older, we will consider opening a savings account or checking account for her allowance. We plan to keep that account balance relatively low. We do think it is important the kids understand the importance of money, saving, and spending responsibly. This segues well into another post we know about a seminar on teaching kids about money.
All accounts a parent owns that are intended to benefit a minor child (should parents pass away) should be set up/converted to trust accounts. The reasoning for this is three-fold: 1) the trust document dictates who the money goes to based on your wishes, 2) the trust further instructs on at what age the beneficiary is entitled to the money (whether in staged distributions or outright), and 3) it nominates who you trust to take care of finances (known as the trustee), should you be incapacitated or pass away. This allows you to manage your accounts and use them as you please, but if something should happen to you, then the trustee will be required to follow the trust, ensuring your child still receives the money, but it is on your terms. Also, for accounts that are set up for your child, including 529 accounts, you can list your trust as a successor participant/custodian/manager. This means that if something happens to you, your chosen trustee will be authorized to manage the accounts. Before your child reaches the age of inheritance, the trustee is able to use the funds to take care of your child's needs, as outlined in the trust document, which usually consists of any health, education, support, or maintenance expenses.
If you are considering setting up a trust and Estate Plan in the Bay Area, please get in touch with my office at 510-431-2474. It's important that your Estate Plan fully cover your needs and wishes. If you would like more information on banking options for your child, you can contact Cindy Gaytan at firstname.lastname@example.org, 510-505-5221. For information about 529 accounts, you can contact Christine Duenas at email@example.com, 510.943.1967.
This post is neither legal advice nor banking advice, but just my personal insight and research.