Why UTMA Over 529 Is The Way To Go

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A college degree is a status accomplishment for many families, especially immigrated generations like me. My parents will always tell me they don’t care what I want to do with my future as long I come home with a college degree.

This was enough for them to believe they have achieved society’s goal. By having a college degree this should allow me to survive the competitive world. Don’t get me wrong I greatly appreciate the sacrifice they’ve made as I see many of my high school peers never had the chance to pursue such a degree and been in the workforce straight after high school.

My parents paid $51K for my undergraduate tuition in 2006 at a private for-profit institution straight out of pocket. Their goal was for me to graduate with no debt and they were always supportive for me to pursue a graduate degree which I did but dropped out after two semesters.

While attending college, I remember asking my mom why working seven days a week when we barely see each other in the house. She replied: “how do you think we’ll be able to afford your undergrad?” – For that I’m extremely grateful.

My parents were aware of the 529 saving plans but they were not a fan because others will say how bad it is and how much it will affect their taxes. Therefore; they never bothered to do their own research and went with the flow. As for the UTMA/UGMA account, my frugal parents did not care much since they did not believe in investing their hard earned income in a volatile market. Unknowingly, in the long term it would’ve been a huge tax advantage and stress less.

Fast forward to today, I chose to go with the UTMA custodial account over the 529 plan. Before we go to the details let’s first compare them.

DIFFERENCES BETWEEN THE UTMA/UGMA ACCOUNT AND THE 529 PLAN

TYPES

They are both financial accounts set up by one person for the benefit of another. It can be by any adult to a beneficiary it doesn’t have to be a parent-to-child only. 

There are two types of custodian accounts: The Uniform Transfer to Minors (UTMA) & the Uniform Gift to Minors Act (UGMA). 

Also, two different types of the 529 plan: The 529 prepaid plans & the 529 college savings plan. Unlike custodial accounts, the account holder is the owner.

TAX ADVANTAGES

Custodial account: Taxes are paid on the earnings annually based on the child’s income tax bracket and not the parents to a certain threshold. The first $1,050 in earnings is tax-free, and the next $1050 is taxed at the child’s tax rate. Any income over $2100 is taxed at the parent’s tax rate.

529 plan: This plan grows tax-deferred. It allows you to withdraw without paying any tax or penalty on your contribution only if used for educational purposes.

ACCOUNT OWNERSHIP

Custodial account: For these accounts the beneficiary, the Minor, is the owner. Once set up, you can no longer take it back, it’s irrevocable. You cannot decide later in the years you want your contributions back. As soon as the beneficiary reaches the age of consent you must transfer the account to her/him. Then, (s)he can spend it as (s)he pleases. 

529 plan: The account owner has control of the funds. Unlike a custodial account, the owner can decide at any time to withdraw his/her money. It will be considered an income therefore it will be taxed and penalties may apply.

CONTRIBUTIONS FLEXIBILITY

Custodial account: There’s no limit cap. You can contribute as much money you want. Anyone can contribute up to $15,000 per child yearly without being gift-taxed.

529 plan: Depending on the state the plan can be topped up to $529,000. Once the plan exceeds the state-proposed limit you will no longer be able to make extra contributions.

HOW I SEE IT

Finally, after considering these facts and understanding the differences. I asked myself, what would I decide if I was 18 years old knowing what I know now. 

I can tell you this would’ve been ammo for not pursuing a graduate degree after graduating with no debt – I wouldn’t need to look for ways to cut down expenses when the unexpected occurs. At least, with a solid emergency fund I would’ve been better prepared.

Contrary to popular belief, I’m not saying it is completely a bad idea to pursue higher education but is it worth taking a student loan and being part of the 20 year average time it takes to pay the loan back statistics???

My concern with the 529 plan is we can all save for a child college and (s)he decides not to go to college then we’re pretty much stuck with the funds. The only options will be to:
– Use it yourself and pursue further education
– Change the beneficiary name like a niece/nephew
– Withdraw your fund which will be taxed as an income plus and a 10% penalty.

The education system has changed a lot with the online world. Now, it is easier to learn and open a business faster than finding a job right after college.

After all, I’m more comfortable going with the UTMA option knowing if my kids plan on going to college I will follow my parents’ way allowing them to graduate debt free. As for higher education, worse case scenario, they can use the funds to pursue their education if they are not eligible for financial aid. I’m all for investing in self first.

Ideally, will like to see them continue investing and allow it to compound in a small cap fund with no expense ratio and some equity assets. This would’ve been a great start to their financial independence journey.

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