"UTMA" translates to the Uniform Transfers to Minors Act, first established in 1986 to provide a way for adults to give financial gifts to minors while still maintaining control of the funds. Minors can't legally manage their own investments, and UTMA accounts allow adults to hold and manage the assets for them, subject to some rules.
UTMA accounts are governed by state law, and not all states recognize them. Some states provide for Uniform Gifts to Minors Act, or UGMA, accounts instead, which are marginally different.
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How UTMA Accounts Work
Suppose you contribute $25,000 to a UTMA account on your child's behalf. You can contribute as much as you like to a UTMA account. There are no statutory limits. You might or might not name yourself as the custodian of the account – the adult who invests and manages that money on behalf of the child.
The custodian can invest in stocks, bonds and mutual funds, but they can't buy on margin or take on stock options because these latter investments are riskier. And, after all, this is someone else's money the custodian is managing.
There's no getting that $25,000 back if you have a change of heart. Contributions to UTMA accounts are irrevocable gifts. Your child legally owns that money as soon as the transfer is made. They just can't manage the funds.
Can a Parent Withdraw Money From a UTMA Account?
A parent can withdraw money from a UTMA account provided that they're the custodian of the account, but the custodian can only spend the withdrawn funds on the minor's behalf and for their benefit. This doesn't mean dipping into the funds for school clothes, weekly allowances or anything else parents are expected to provide for their children. Withdrawn funds can only be spent on "extras," such as a car that can get them to school or to work or a computer necessary for studies.
When the Minor Reaches the Age of Majority
Children legally become adults at either age 18 or age 21, depending on state law. This is the magic number when the custodian of a UTMA account must step aside. In no case is it ever later than age 21, and this is only under special circumstances in some states that provide that the funds can be held for a few more years after age 18.
Full control of the funds passes to the young adult at this time and they can do absolutely anything they like with the money and assets. Donors to the account are not permitted to set any conditions on what the funds can be used for when the beneficiary reaches the age of majority.
Do You Have to Pay Taxes on a UTMA Account?
The funds in that UTMA account have presumably been growing nicely for a while, and you can rest assured that the IRS will eventually want its share of that growth. Income tax must be paid on the account's earnings.
The income would be taxable to the child or beneficiary of the account, although the first $1,100 is tax-free as of 2020, at least until they reach age 18. The next $1,100 is taxed at the "kiddie tax" rate, which kicks in from ages 19 through 24 if the beneficiary is a full-time student. Beyond these increments, gains are taxed at the parents' presumably higher tax rates, assuming the beneficiary is still a minor at the time the withdrawal is made.
This rule applies up to age 24 unless the child is paying for more than half their own support from their own earned income – not investment income or the proceeds from the account.
Parents also have the option of reporting the withdrawals on their own tax returns so they don't have to file a return on their child's behalf, but the child's overall investment income for the year cannot have been more than $11,000 as of 2020.