• Independent 529 Plan
• 529 College Savings Plans
• Custodial Accounts
• Coverdell Accounts

Mutual Fund Custodial Accounts

Parents, grandparents and others are eligible to open a mutual fund custodial account in a child's name. A portion of any earnings from a custodial account, also called Uniform Transfer to Minors Act (UTMA) or Uniform Gift to Minors Act (UGMA), is federal tax-free, while the rest is taxed at the child's rate rather than the parents' rate.

Because custodial account assets are owned by the student, they may reduce need-based financial aid at a greater rate than assets invested in 529 savings plans or those held by their parents in regular mutual funds.

Benefits of Mutual Funds

Mutual funds enable you to invest in a professionally managed portfolio with after-tax money.  You can choose any combination of funds you like, and you have the potential to earn money from:

1. Ordinary income or capital gains dividends, which the funds generally distribute to shareholders each year, and
2. The growth in fund share values at the time you sell them.

Tax Benefits

You can put in up to $12,000 a year (in 2008) free of federal gift taxes, in your child's name through a custodial account. The so-called "kiddie tax" applies to children under age 18 with unearned income above $1,700.

Parents, grandparents and others are eligible to open a mutual fund custodial account in a child's name. A portion of the earnings from a custodial account, also called Uniform Transfer to Minors Act (UTMA) or Uniform Gift to Minors Act (UGMA), is tax-free, while the rest is taxed at the child's rate rather than the parents' rate.

Because custodial account assets are owned by the student, they generally reduce need-based financial aid at a greater rate than assets invested in 529 savings plans or those held by their parents in regular mutual funds.

Benefits of Mutual Funds

Mutual funds enable you to invest in a professionally managed portfolio with after-tax money.  You can choose any combination of funds you like, and you have the potential to earn money from:

1. Ordinary income or capital gains dividends, which the funds generally distribute to shareholders each year, and
2. The growth in fund share values at the time you sell them.

Tax Benefits

You can put in up to $12,000 a year (in 2008) free of federal gift taxes, in your child's name through a custodial account. The so-called "kiddie tax" applies to children under age 18 with unearned income.

Ordinarily, you pay taxes on mutual fund earnings distributions in the year you receive them, either at regular income tax rates or at the lower long-term capital gains rate (currently 15 percent).

Opening a mutual fund in a child's name has additional tax benefits:

• The first $850 in annual investment earnings is tax-free. 
• For children under age 18:  The next $850 is taxed at the child's rate, typically 10 percent.  Unearned income over $1,700 is taxed at the parents' highest marginal tax rate (unless the parents are taxed at a lower rate than the child).
• For children 18 and older:  All net investment income earned over $850 in the account is taxed at their tax rate, typically 10 percent.
• These figures apply for the year 2008 and are generally adjusted annually.  For the 2008 tax year, the kiddie tax will be expanded to include dependents under the age of 19 and dependent full-time students under the age of 24.
• Since custodial accounts are in the child's name, he or she can generally take control of the money between ages of 18 and 21, depending on their state of residence.

Withdrawals

There are no penalties or special restrictions on any withdrawal as long as it is used for the benefit of the child. However, in order to withdraw money, you redeem, or cash out, fund shares. If the share price has increased since the time of purchase, taxes will be due.

If your child receives a full scholarship or your employer provides tuition benefits, your child can apply the money toward other goals without penalties.

The tax information contained herein is not intended to be used, and cannot be used by any taxpayer, for the purpose of avoiding tax penalties that may be imposed on the taxpayer. It was written to support the promotion of the products and services addressed herein. Neither TIAA-CREF nor its affiliates offer tax advice. Taxpayers should seek advice based on their own particular circumstances from an independent tax advisor.