Investment Accounts for Children

When planning for a child's financial future, parents have several powerful tools at their disposal. From covering future education costs to building long-term wealth, strategies like 529 college plans, UTMA/UGMA accounts, and cash value life insurance policies each offer unique benefits. Unfortunately, selecting which type of account is best for you, isn't as easy as we'd hope.

More and more people I speak with say,

"Okay, 529 plan, but what if my kids don't attend college?"

And it's a fair question. So, let's break down the differences between the options available to save for your children's future and set them up for success.

We're going to hit the highlights of four different investments.

• 529 College Savings Plans

• UTMA - Uniform Transfer To Minors Act

• UGMA - Uniform Gift to Minors Act

• Cash Value Life Insurance

While some are designed specifically to grow savings for college, others provide more flexibility or other added perks.

1. 529 College Plans

• Basic Idea: A tax-advantaged savings plan specifically designed for education expenses.

• Tax-free growth and withdrawals if used for qualified education expenses.

• Can be used for tuition, fees, books, trade, grad, and even K-12 private school.

• You maintain control of the account; the child doesn’t automatically get access.

• Investment options vary by plan and are usually state-sponsored.

• Accounts can be passed between siblings or even cousins.

• Some states offer tax credits for 529 plan contributions.

• Non-qualified withdrawals have a 10% penalty and income taxed at the beneficiary's income tax bracket (not the Trustee's)

• You are allowed to open a 529 plan in other states besides your primary residence state

Pros: Tax-free growth, flexibility in educational uses, parental control beyond the age of minority (18 or 21), 5yr Forward Gifting Rules for larger contributions

Cons: Penalties and taxes if funds aren't used for education. Can impact financial aid.

2. UTMA Accounts (Uniform Transfers to Minors Act)

• Basic Idea: A custodial account that holds a wide range of assets for minors until they reach adulthood.

• Can hold real estate, stocks, bonds, or even patents.

• Income earned is taxed at the child’s rate, but some may be taxed at the parent's rate if high.

• Assets transfer to the child at the "age of majority" (usually 18 or 21, depending on the state).

• No restrictions on how the child uses the funds once they gain access.

Pros: Flexibility in assets, low tax rate for minor.

Cons: Child gets full control of the assets at adulthood.

3. UGMA Accounts (Uniform Gifts to Minors Act)

• Basic Idea: A custodial account that holds financial assets (e.g., cash, stocks) for minors, similar to UTMA but with fewer asset options.

• Holds financial securities like stocks, bonds, and mutual funds (no real estate or complex assets).

• Tax treatment is similar to UTMA accounts.

• Transfers to the child at the age of majority (18 or 21).

• No restrictions on how the child uses the funds.

Pros: Simplicity, tax benefits, easy to open.

Cons: Full access by the child once they come of age.

4. Cash Value Life Insurance Policies for Children

• Basic Idea: A life insurance policy that builds a cash value over time, which can be accessed or borrowed against later.

• Includes both life insurance coverage and a cash investment savings component.

• The cash value grows after-tax, tax-free, and you can borrow against it or withdraw it.

• It provides lifelong coverage as long as premiums are paid.

• Investment options are similar to the set of funds in a 401k or brokerage savings account.

• The size of the policy determines the dollar amount you can save inside the policy.

• You can invest in fixed interest rates, indexes, or mutual funds.

Pros: Lifelong coverage, tax-free growth, high funding limits, complete flexibility for use, complete control of the asset until ownership is signed over to a child at any age.

Cons: higher internal fees and specific funding rules to pay attention to.

Which account is best for you?

Here’s the easiest way to guide your decisions.

The first question you should ask yourself is - Am I ok with my child becoming the owner of this account, no matter what, at age 18 or 21?

If not (like most people we work with), then you can cross the UGMA or UTMA options off your list.

Now we choose between a 529 plan or cash-value life insurance policy.

If you are seriously concerned or confident that your child will not

• go to college

• go to any trade school

• require any funds for private school k-12

• do not have any other children to consider for higher education

If so, you might avoid a 529 plan. Otherwise, starting with a 529 plan is a straightforward way to start saving for your child’s future and is a perfectly fine option for most people who want to maintain control over the account past the age of 18 or 21.

In the worst-case scenario with an unused 529 plan, your children can withdraw the funds, pay a 10% penalty, and only pay taxes in their tax bracket, not yours.

If you are thinking of larger amounts of money than what would be used for college or wish the money to be available for any purpose, like purchasing a new house or starting a business, but you also want to maintain complete control over the asset until this time arrives, no matter the age, then cash-value life insurance might be your most appropriate option.

If you go this route, working with a vetted, trained professional in life insurance and not just any old insurance agent is essential. These products can be excellent options for long-term savings, but they are more complex than they seem on the surface.

Finally, here is a quick note on ROTH IRAs for children: You can’t use a Roth IRA until your child has earned income—more on this topic in another post.

Summary of Pros & Cons:

The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual.

Prior to investing in a 529 Plan investors should consider whether the investor's or designated beneficiary's home state offers any state tax or other state benefits such as financial aid, scholarship funds, and protection from creditors that are only available for investments in such state's qualified tuition program. Withdrawals used for qualified expenses are federally tax free. Tax treatment at the state level may vary. Please consult with your tax advisor before investing

Securities offered through LPL Financial, Member FINRA/ SIPC. Investment advice offered through IHT Wealth Management, a registered investment advisor. IHT Wealth Management and AutomotiveWealth are separate entities from LPL Financial. 

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