Most parents who can do so provide significant financial support to their children at some point. The goal may be to pay for private school or help out with college, or set aside money for a nest egg. Regardless of the reason for the assistance, two things you should consider if you find yourself in this situation are who will control the assets and what the tax consequences will be. The type of financial account you choose to hold the assets has an impact on both.

Account for your child

There are many different types of accounts, but when it comes to control of assets, the accounts break down into a few categories as follows:

  • You have permanent control of the assets – this is the case with accounts titled in your name. Absent a power-of-attorney or a court finding that you aren’t capable of managing your finances, you will always maintain control of assets in these accounts, and you would provide assistance by transferring funds from the account to your child.
  • Assets are held for the benefit of your child, but controlled by a third party – this type of account is known as a custodial account. The most common types of custodial accounts are UTMA and UGMA accounts, and the assets in the account must be used for the benefit of the child. The account is managed by a custodian, which may be you or a third party until the child reaches the age of majority. At that point, your child will have full control of and access to the funds.
  • Assets are controlled by the account owner to be used for the account beneficiary – this is how 529 plans are structured. The arrangement is similar to a custodial account with a few notable differences from a control perspective. First, the beneficiary (likely your child) will never have control of these assets even at or beyond the age of majority. Second, the beneficiary can be changed on a 529 account, which is extremely useful if the child for whom the 529 was funded doesn’t need the funds but another family member does. You can find out more about 529 plans at this post.
  • Assets are held jointly – if you establish a joint account with your child, both account holders have full access to the account. While a joint account is convenient, if you want to maintain control it is not the best option for you.
  • Child has control of assets – typically, until your child reaches the age of majority, this isn’t an option. Accounts established in your child’s name will either be treated as a custodial account or a joint account on which you are a co-owner.

In highly complex situations, or when the amount being passed on is quite sizable, establishing and funding a trust for your child might make sense. However, for the vast majority of cases, one of the financial account options above will be sufficient. Beyond control of the assets, you’ll also want to consider how the financial account is taxed and, if applicable, how the assets impact the formula for financial aid for college. I’ll cover those issues in a future post.