UTMA vs. 529: Not All Accounts Are Created Equal

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Many of us want to help our children or grandchildren get a good start in life, often by saving money for their education or future needs. Allan Levine had this in mind when he set up accounts for his grandchildren, Derek and Danielle, under the Uniform Transfers to Minors Act (UTMA).

UTMA accounts, which vary slightly by state, allow the person setting up the account (the “custodian”) to manage and invest the assets until the child reaches a certain age—typically between 18 and 21. While the custodian can control the account, the assets legally belong to the child and can only be withdrawn to cover expenses for the child’s benefit. Once the child reaches the specified age, the assets are transferred to them outright.

UTMA

Unfortunately, Mr. Levine misunderstood the rules of UTMA accounts. In 1995, he withdrew approximately $125,000 from the UTMA accounts and placed the funds into his revocable living trust. Upon his death, that money did not go to Derek or Danielle, as intended, causing significant family discord. Derek and Danielle ended up suing their grandmother over the funds. While the case was dismissed due to a legal technicality regarding the timing of the suit, the situation caused unnecessary strife and hard feelings within the family.

Mr. Levine’s generous gesture ultimately led to litigation because he violated the terms of the UTMA account by reclaiming the gift. There was a better way to handle this situation.

Rather than using a UTMA account, Mr. Levine could have set up a 529 plan for Derek and Danielle. Like UTMA accounts, contributions to a 529 plan qualify as gifts. However, with a 529 plan, Mr. Levine could have retained control over the funds as the account owner and designated Derek and Danielle as beneficiaries. Importantly, unlike a UTMA, the owner of a 529 plan retains the right to withdraw the funds at any time for their own benefit, preserving flexibility and control over the assets.

529 plans also offer additional tax benefits. The funds in the account grow tax-free, much like an IRA. Moreover, distributions from the plan are also tax-free as long as they are used for qualified educational expenses. If Mr. Levine had invested wisely in a 529 plan, the funds would have grown without the burden of taxes, and when he withdrew money for Derek and Danielle’s college expenses, those withdrawals would have been tax-free as well.

Had Mr. Levine needed to access the funds for his own purposes, Derek and Danielle would have understood that he retained that right, preventing the family turmoil that arose. 

While UTMA accounts are rigid and can lead to unintended complications, 529 plans offer far more flexibility along with estate, gift, and income tax advantages. A qualified estate planning attorney can help you determine if a 529 plan is the right solution for your family. Additionally, they can advise you on how to address any existing UTMA accounts to avoid falling into the same trap Mr. Levine did.

From the desk of Attorney Brandon McGee

Brandon McGee
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