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Family Law Newsletter

Custodial Accounts Held for Minors

Minors have no legal capacity to manage property. Thus, transferring property and other assets to minors can be problematic. For example, parents or other adults may wish to convey a small amount of property to a minor without investing the time and expense of establishing a trust.

Another option is to set up a custodianship for the minor. Under a custodianship, the transferring party names a custodian and transfers the property into an account in the minor’s name. The custodian holds and manages the custodial property for the benefit of the minor. A custodial account is irrevocable and belongs to the minor as the owner.

Uniform Transfers to Minors Act (UTMA)

The Uniform Transfers to Minors Act of 1986 (UTMA) was passed in order to eliminate some limitations of the earlier Uniform Gifts to Minors Act (UGMA). All states have adopted some form of the UTMA or UGMA. The UTMA provides a convenient method of allowing the transfer of property to minors without setting up a trust.

In a custodianship, an adult custodian holds and manages property for the benefit of a minor child until that minor is old enough to receive the property. A UTMA transfer is irrevocable, and the custodian must relinquish the property to the minor as soon as they reach the age of majority, which varies by state (usually 18 or 21, sometimes 25).

Allowable Transfers under the UTMA

The UTMA very broadly defines property which may be transferred to a minor, i.e. “custodial property.” Generally, every conceivable legal or equitable interest in property of any kind may be transferred to minors. In particular, custodial property may include:

  • Cash or securities;
  • Ownership of a life endowment insurance policy or annuity contract;
  • Interests in real property;
  • Title to tangible/intangible personal property such as automobiles or patent rights;
  • Rights to exercise a future power of appointment (the right to direct a distribution from a trust or will); and/or
  • Present rights to future payments such as royalties or benefits.

The transferor creates the custodianship by naming a custodian and transferring the property to the custodian. Any adult can be the custodian, including the parent of the minor child and/or the transferor; however, there may be estate tax consequences to naming the parent or transferor as custodian.

Powers, Rights and Duties of the Custodian

A UTMA transfer is irrevocable, and the rights to the custodial property are immediately vested in the minor. However, the custodian retains some rights, powers, duties and authority over the custodial property while it is in the custodian’s control. In general, the custodian is required to collect, hold, manage, invest and reinvest the property for the benefit of the minor. As a fiduciary, the custodian is required to perform all duties with the standard of care that a prudent person would use in care and management of another person’s property.

Specific duties of a custodian, enumerated by the UTMA include:

  • Duty to invest;
  • Duty to identify and keep separate custodial property from other property; and
  • Duty to keep records of all transactions regarding custodial property.

A custodian may draw on the property to make purchases or may deliver or pay funds from a custodial account to the minor, provided the activity is done specifically for the “use and benefit” of the minor. Finally, the custodian may be reimbursed from the custodial property for any reasonable expenses incurred in performing their duties.

Rights of Minors

The minor is the owner of the property held in a custodial account, but does not have legal capacity to manage or control the property. However, once the minor reaches the age of 14, they are entitled to petition the court to order an accounting of their property by the custodian and/or to have the custodian removed.

The custodianship automatically terminates when the minor reaches the statutory age of majority under the enacting state law. Once the custodianship terminates, the minor receives all rights and control over the custodial account and may use the funds or property in any manner they wish (e.g., a parent/custodian may not take the property back).

Tax Considerations

Transferring property to a minor during the transferor’s lifetime is one way to avoid estate taxation on that property. However, if the transferor is also the custodian, and they die before the minor is an adult, the property reverts back to the transferor’s estate and is taxable.

Other taxes, such as a gift tax, may still apply to a custodial account to the extent the amount of the gift exceeds the allowable annual gift tax exclusion. The annual gift tax exclusion amount is $14,000 for the 2013 calendar year, and is adjusted each year for inflation.

Any income earned on a custodial account must be reported and is taxed to the child. The income is taxed at the regular income tax rate, under a federal “kiddie tax” rule, until the minor is 14 years old (to prevent shifting income to children to gain a tax advantage). After age 14, the income is taxed at a lower, children’s rate. The custodian may draw upon the custodial account to pay the income tax, since it is for the benefit of the minor.

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