If you are fortunate enough to be able to put aside some money for your kids or grandkids, there are a couple of great options to consider. You can contribute significant amounts of money into each type of account, so the question is, which is better?
529 Plans
The 529 is designed specifically for education savings. They are particuarly geared towards college, but funds can also be used for private K-12 education up to $10,000 per year. Anyone can contribute to a 529 on behalf of a minor, and contribution limits are very high — $235K for each beneficiary. One of the best things about 529’s is that if you use the money for education related expenses, you don’t have to pay any taxes on the growth. It is a lot like a Roth IRA, but for education savings instead of retirement. The downside is if the funds aren’t used for a qualified educational expense, that withdrawals are taxed at your normal income tax rate, plus a 10% penalty.
If your child decided not to go to college, the money can be used for apprenticeship programs and trade school, and up to 35k can be rolled over into a Roth IRA (you still have to follow contribution rules). You can also transfer the beneficiary of the account to whomever you choose so long as it is a family member.
UTMA’s
These accounts are for general investing, and like the 529, anyone can contribute for the benefit of the child. The first $1,300 of income (per year) grows tax free, and the next $1,300 is taxed at the child’s tax rate. After that, income is taxed at the parent’s rate. The main difference between UTMA’s and 529’s is what the money will be used for. Let’s say the UTMA grows to be worth $50,000 by the time the child reaches 21 — he could use it to buy a car, put a down payment on a house, start a business, or to buy scratch offs and quit his job for a few months. It would be his money, and he would be in sole control of it upon reaching 21. UTMA’s are a good option if you want to provide money without college strings being attached.
Another upside to UTMA’s is that 529 plans are usually limited to a menu of mutual funds to invest in — similar to most 401(k) plans. You can invest in a many more things and create custom portfolios with a UTMA. This is something worth considering if you are wanting to maximize the growth of the account.
Up to You!
In summary, both 529 Plans and UTMA’s serve their own purposes, both options are good, but they are pretty different. If you want more control over how the funds are used, the 529 is the clear path. The UTMA option is a great fit if you want to give your child a head start without having college strings attached.
This information was provided by Grayson Shaw, Investment Advisor.
