What are the Benefits of a Custodial Account?

A custodial account is one way of giving a monetary gift to a child for future use. By contributing to such an account, adults can help save money for a child’s future college education in an organized and secure manner. Among the other benefits of this type of savings account is that the adult who opens the account is able to continue contributing to it while managing the child’s assets until the child reaches legal adulthood. If money is ever needed for the child’s benefit before she or he reaches adulthood, money can also be withdrawn early. Up to a certain amount, interest earned on a custodial account is not subject to taxation and there is no gift tax on contributions made to the account up to a certain amount annually.

Rising tuition costs have caused parents, grandparents and others to begin planning for a child’s educational future early in life. By opening a custodial account early and frequently contributing to it throughout a future student’s childhood, the pressure of paying for college tuition is often lessened when the student actually enters a higher learning institution. Besides having money tucked away for future use, money in a custodial account also earns interest over time.

If a situation arises where money is needed before the child enters college, money can be withdrawn early. This can only be done, however, if the money is spent for the child’s benefit. Money established in a custodial account is considered an irrevocable gift and, as such, cannot be used for any other person’s benefit or interests.

Although monies contributed to a custodial account belong solely to the child for which the account was established, adult contributors take comfort in being able to control these assets on the child’s behalf until the child reaches legal age to do so on her or his own. Having this type of control helps assure contributors that money will not be misused and that the child will ultimately benefit from it whenever it is withdrawn. The assets are kept in the child’s name, but adult contributors receive regular statements from the bank or brokerage firm where the account is held so the account can be properly monitored and accurate records kept on its interest earnings.

Another of the benefits accompanying a custodial account relate to the taxation of monies in the account. When making contributions, no gift tax is assessed on the account provided that the contribution is less than a certain amount, which can be several thousand dollars per year. Also, interest earned on accounts up to a certain amount is not taxed. When interest earnings exceed this preset amount, however, earnings are only taxed at the minor’s tax rate and not the adult’s.