Custodial Accounts (UGMA/UTMA): Investing for Minors

What Is a Custodial Account?

A custodial account is an investment account opened by an adult (the custodian) for the benefit of a minor (the beneficiary). The custodian manages the account — choosing investments, making trades, and overseeing deposits — until the child reaches the age of majority (18 or 21, depending on the state), at which point full ownership and control transfer to the child.

Custodial accounts are one of the simplest ways to give a child a financial head start. There are no income limits, no contribution caps set by law, and no restrictions on how the money can eventually be used. Unlike a 529 plan, which must be used for education expenses, custodial account funds can go toward anything — a first car, a business, or a long-term investment portfolio.

The two types of custodial accounts are established under federal law: the Uniform Gifts to Minors Act (UGMA) and the Uniform Transfers to Minors Act (UTMA).

UGMA vs UTMA: Key Differences

Both account types serve the same purpose but differ in what assets they can hold and when control transfers.

For most parents and grandparents, the practical difference is minimal. If you plan to invest in stocks, bonds, and index funds, either account type works. UTMA accounts are preferable if you want the ability to hold alternative assets or if you want the child to gain control at 21 instead of 18.

Both are opened at standard brokerages — Fidelity, Schwab, and Vanguard all offer custodial accounts with no minimums and no account fees.

Custodial Account Tax Rules (Kiddie Tax)

Custodial accounts have unique tax treatment that differs from both regular brokerage accounts and tax-advantaged accounts like a Roth IRA.

The money in a custodial account legally belongs to the child, so investment income (dividends, interest, capital gains) is taxed under the child's Social Security number. However, the kiddie tax rules prevent parents from sheltering unlimited income in a child's lower tax bracket.

2025 Kiddie Tax Thresholds:

This means a custodial account generating less than $1,300 in annual investment income owes zero federal tax. For a portfolio earning a 2% dividend yield, that threshold is not reached until the account balance exceeds approximately $65,000.

When to Use a Custodial Account

Custodial accounts make sense in several situations, but they are not always the best choice.

Good use cases:

• Gifting money to a child with no restrictions on future use
• Teaching a teenager about investing with real money
• Building a long-term investment portfolio that benefits from decades of compound interest
• Grandparents or relatives who want to contribute to a child's financial future
• Families who have already maxed out 529 plan contributions

When other options may be better:

• If the money is specifically for college, a 529 plan offers tax-free growth for education expenses
• If you want to retain control of the funds, a trust provides more flexibility and restrictions
• If you want the child to have retirement savings, a custodial Roth IRA (requires the child to have earned income) offers tax-free growth

The irrevocable nature is the biggest consideration. Once you deposit money into a custodial account, it belongs to the child. You cannot take it back. And at 18 or 21, the child gains full control — they can spend it on college, a house down payment, or anything else. There are no guardrails.

Building a Custodial Account Portfolio

A child's greatest investing advantage is time. With a 15-20 year time horizon before the child reaches adulthood — and potentially decades more if they keep investing — a custodial account can be invested aggressively.

Sample portfolio for a custodial account:

With $100/month invested from birth at an 8% average annual return, the account would hold approximately $46,000 by age 18. That is $21,600 in contributions and $24,400 in growth — the power of compounding at work over nearly two decades.

If the child leaves the money invested until age 30 (another 12 years), that $46,000 grows to roughly $116,000 without any additional contributions. Starting early matters more than contributing large amounts.

Frequently Asked Questions

What happens to a custodial account when the child turns 18?

At the age of majority (18 for UGMA in most states, 18 or 21 for UTMA depending on the state), full legal ownership transfers to the child. The custodian is removed, and the now-adult can withdraw, invest, or spend the money however they choose. There is no way to extend the custodian's control beyond the transfer age without establishing a formal trust.

Can a custodial account affect financial aid?

Yes. Custodial account assets are considered the student's assets on the FAFSA, which means 20% of the balance is expected to contribute toward college costs each year. By contrast, assets in a parent's name (including 529 plans) are assessed at only 5.64%. A $50,000 custodial account could reduce financial aid by up to $10,000 per year. Consider this impact when choosing between a custodial account and a 529 plan for college savings.

Is a custodial Roth IRA better than a custodial brokerage account?

A custodial Roth IRA offers tax-free growth and tax-free withdrawals in retirement, making it extraordinarily powerful for a child with earned income. However, it requires the child to have earned income (babysitting, lawn mowing, part-time jobs), and contributions are limited to the lesser of earned income or $7,000 per year. A custodial brokerage account has no income requirement and no contribution limits. The best approach, if possible, is to fund both.