What’s the Best Account to Save for Your Kid’s College?

All right, next up, we've got a question from Stephen. It says, "Let's see if I can get a Tumbler this time around." Ding, ding, ding. Hey, that's already a great start. I saw a question from a few weeks ago, and the username was like "K Katie's number one fan." I don't see what they're going for. We've got some smart people in the chat there. Okay, the question is, "Are there any additional considerations to saving money for children in a separate taxable brokerage account as opposed to a UTMA? And I would even expand, what kind of account types they should use." Yeah, so when it comes to saving money for kids, there are a few different options. And Brian, you can certainly talk about the options. You know, you can do custodial Roth IRAs, you can talk about that a little bit. You can do UTMAs or UGMA's, you can talk about that a little bit. You can do 529s with your college savings vehicles, which are great. You can talk about that a little bit. But the crux of Stephen's question here is, "Okay, what's the difference in a UTMA versus just saving in a regular taxable brokerage account?" Now, I'm going to answer that question. Then I want you to talk a little bit more about the different savings accounts. Here's the real benefit of a UTMA versus just saving in a regular taxable brokerage account, either in your name or maybe held jointly with your kid or something like that. It's really the tax rates. If you have assets in your name and those assets are growing, and you're having dividends and interest payouts and you buy or sell and have capital transactions, and it's held inside of your name, it's going to be taxable to you on your income tax return. However, the way the tax code is written, it says that, "Hey, if there are accounts like UTMAs that are set up where the kid is the beneficiary, we're going to apply a slightly different set of tax rules to that. Maybe, on the first certain amount of income that's generated, maybe if it's a small account and it's not generating tons of dividends and interest, and there's not tons of capital gains, then that account will be subject to your kid's tax rate." Well, most kids' tax rates are going to be 0%. Now, you might be thinking, "Oh, this is genius. I'll just put, like, $100,000 in my kid's UTMA, and then, once it gets over a certain level, then it's going to pass through, and it's going to be taxed at the parent's tax rate." But when you're just starting out, if you want to start small accounts, and you want to have it not reported on your tax return for those reasons, those accounts are there. So that's the difference between those two. It's a little nuanced, and in reality, it probably doesn't make a huge difference unless you're someone who is in a super high tax bracket. But I think the real question that most people have, Brian, is, "What kind of account should I be saving in for my kid? And what are the benefits and differences of each?" Remember, by the way, when you start thinking about saving for kids, it's more of an abundance goal or pre-paid future expenses. So that's step eight of the financial order of operations. Go to money.com/resources if you want to download your list of the nine steps. But it's one of those things I think, if I was going to create an order of operations on kids' funding, I first like 529s. You know, you can do custodial Roth IRAs, you can talk about that a little bit. You can do UTMAs or UGMAs, you can talk about that a little bit. You can do 529s with your college savings vehicles, which are great, you can talk about that a little bit. But the crux of Stephen's question here is, "Okay, what's the difference in a UTMA versus just saving in a regular taxable brokerage account?" Now, I'm going to answer that question. Then I want you to talk a little bit more about the different savings accounts. Here's the real benefit of a UTMA versus just saving in a regular taxable brokerage account, either in your name or maybe held jointly with your kid or something like that. It's really the tax rates. If you have assets in your name and those assets are growing, and you're having dividends and interest payouts and you buy or sell and have capital transactions, and it's held inside of your name, it's going to be taxable to you on your income tax return. However, the way the tax code is written, it says that, "Hey, if there are accounts like UTMAs that are set up where the kid is the beneficiary, we're going to apply a slightly different set of tax rules to that. Maybe, on the first certain amount of income that's generated, maybe if it's a small account and it's not generating tons of dividends and interest, and there's not tons of capital gains, then that account will be subject to your kid's tax rate." Well, most kids' tax rates are going to be 0%. Now, you might be thinking, "Oh, this is genius. I'll just put, like, $100,000 in my kid's UTMA, and then, once it gets over a certain level, then it's going to pass through, and it's going to be taxed at the parent's tax rate." But when you're just starting out, if you want to start small accounts, and you want to have it not reported on your tax return for those reasons, those accounts are there. So that's the difference between those two. It's a little nuanced, and in reality, it probably doesn't make a huge difference unless you're someone who is in a super high tax bracket. But I think the real question that most people have, Brian, is, "What kind of account should I be saving in for my kid? And what are the benefits and differences of each?" Yeah. So, when it comes to saving money for kids, there are a few different options. And Brian, you can certainly talk about the options. You know, you can do custodial Roth IRAs, you can talk about that a little bit. You can do UTMAs or UGMAs, you can talk about that a little bit. You can do 529s with your college savings vehicles, which are great. You can talk about that a little bit. But the crux of Stephen's question here is, "Okay, what's the difference in a UTMA versus just saving in a regular taxable brokerage account?" Now, I'm going to answer that question. Then I want you to talk a little bit more about the different savings accounts. Here's the real benefit of a UTMA versus just saving in a regular taxable brokerage account, either in your name or maybe held jointly with your kid or something like that. It's really the tax rates. If you have assets in your name and those assets are growing, and you're having dividends and interest payouts and you buy or sell and have capital transactions, and it's held inside of your name, it's going to be taxable to you on your income tax return. However, the way the tax code is written, it says that, "Hey, if there are accounts like UTMAs that are set up where the kid is the beneficiary, we're going to apply a slightly different set of tax rules to that. Maybe, on the first certain amount of income that's generated, maybe if it's a small account and it's not generating tons of dividends and interest, and there's not tons of capital gains, then that account will be subject to your kid's tax rate." Well, most kids' tax rates are going to be 0%. Now, you might be thinking, "Oh, this is genius. I'll just put, like, $100,000 in my kid's UTMA, and then, once it gets over a certain level, then it's going to pass through, and it's going to be taxed at the parent's tax rate." But when you're just starting out, if you want to start small accounts, and you want to have it not reported on your tax return for those reasons, those accounts are there. So that's the difference between those two. It's a little nuanced, and in reality, it probably doesn't make a huge difference unless you're someone who is in a super high tax bracket. But I think the real question that most people have, Brian, is, "What kind of account should I be saving in for my kid? And what are the benefits and differences of each?" Remember, by the way, when you start thinking about I think saving for kids is more of an abundance goals or prepaid future expenses. So that's a step eight of the Financial Order of Operations. Go to moneyguy.com/resources if you want download your list of the nine steps. But it is one of those things I think if I was going to create an order of operations on kids' funding, I I first like 529s, okay. Um, because that's we all aspire for our kids to want to get a little bit more education, even if it's not traditional college, it could be trade school. And now they've even made it where 529 money has been around over 15 years. Potentially, it could even be some of the funding money for starting your child's Roth IRA down the road. So, I I like 529s. Plus, a lot of states have tax benefits if you have a state income tax in your state that you ought to check into. The next place is, assuming your child is not old enough to be working yet or they have actually earned income, it's probably looking at the custodial accounts, the UGMA, the UTMA. There is a big cautionary word on this though. Realize when your children reach the age of majority in your state, that money is their money. It's theirs. Whereas, at least with 529s, you could still be the owner of the account. You have a lot of control over that. That's why you see grandparents set up and so forth. But custodial accounts like UGMA and UTMA, when your kids hit majority, you better have scared them straight so that they don't go crazy and think that that money should be spent on sports cars or something else. There's a great cow and milk analogy you can use. But then the third account, and I'd encourage you as soon as your children have earned income, whether it's babysitting or whether it's working fast food or doing anything that you're having to file a tax return to report the income, that's the big thing. I think a lot of people want to do this next step, but they don't realize there's actually some steps that have to occur where this needs to be reportable income, earned income to the government. And that's a custodial Roth IRA. I started this with my daughter when she started working in the workforce at age 15. And I got to tell you guys, it's incredible. It's well beyond four figures at this point. It's five figures at this point. And I think about my daughter having five figures in a Roth IRA at her age. It's incredible. That wealth multiplies. It's going to be really powerful in the long term. And you can even do a custodial Roth. I would encourage you because when your kids get your first job, you want them to start really seeing the power of working hard, getting a good work ethic, and even getting some money. So prime the pump. There's nothing wrong with having an employer match from a parental match standpoint. That's a way to let my daughter keep a portion of her paycheck. But I'd say, "Hey, look, every dollar you put in your custodial Roth, I'll give you a dollar-for-dollar match." And she loves it. What's funny is she did an internship this summer and she came into some extra money. She was doing some outside work, you know, doing some animation or technical stuff, and some money came her way. And she's like, "Dad, can I give you that for a match for the Roth?" And I was like, "Honey, you've already loaded that Roth up. So I think we're done for the year." So she's thinking that way, even though she's now in her 20s. So, guys, don't underestimate the power of getting that engine of saving and investing started. We all hear about addictions are bad. But the one addiction that nobody has a support group for is people who save and invest. This group's front of money. The support group for that is the Financial Mutant Financial Group. There it is. That's your empire builders. That's what Stephen, I would encourage you. So, reviewing 529s kind of first. If they don't have earned income, you can go look at the custodial accounts, with the big caveat knowing that the age of majority is something that you need to make sure you've embedded the skill set not to go waste it. And then, number three is, of course, custodial Roth. See, that tax-free millionaire from a young saver is really powerful stuff. For more information, check out our free resources.