Saving for a Child… Which Account Type is Right for You?

Michael Carrico, CFP®, CRPC®, WEALTH MANAGER​

So, you have decided to help your child start saving and investing. That’s fantastic! It’s the first step on their road to financial success. But now you must decide what type of account to use, and you are confronted with a tangled mess of options. Do you use a normal savings account or maybe a brokerage account? Should this be an account in the name of the beneficiary alone, or a joint account? Or should you consider a custodial account such as an UGMA or UTMA? If you are saving for college specifically, is a 529 plan truly the best option? Perhaps you’ve heard Roth IRAs are a good choice. You may even remember those paper US Savings Bonds a parent or grandparent bought for your own education. How do you cut through the noise and make the right choice? Are there tax consequences to think about? Well not to worry, we’re here to help! In this article we’ll review the options and important considerations for each to help you decide what will work best for you.


Tax Considerations

Before we get started on account types it is important to lay some groundwork with regard to taxes.  The gift tax may apply when you are saving on behalf of someone else.  Any time you give money to someone else without any consideration in return, the IRS may view it as a taxable gift and you may be liable for gift taxes.  In determining whether a gift is a taxable gift the IRS first considers if any exemption applies (e.g., a gift to a spouse).  If no exemption applies and a gift is considered a taxable gift, that does not necessarily mean that gift tax is due.  Any individual donor (giver of the gift) can give a certain amount per year to a donee (gift receiver).  This annual amount is known as the gift tax annual exclusion and the limit for 2023 is $17,000 per donee (spouse can combine gifts for an annual exclusion of $34,000 in 2023).  If taxable gifts to a single individual in a single tax year exceed the annual exclusion, gift tax still may not be due!  Everyone has a lifetime gift tax exemption, and it is rather high, meaning that many estates may never need to pay gift taxes.  In 2023 this lifetime amount is $12.92 million.  The exemption is portable for spouses, meaning that with the right legal steps a couple can protect up to $25.84 million upon the death of both spouses.  It is important to note that the annual exemption is set to be cut in half in 2026 with the sunsetting of the Tax Cuts and Jobs Act.  If lifetime taxable gifts exceed the lifetime exclusion, then gift tax liability is due at estate settlement.  The main point that will come up throughout this article is the annual exclusion.  Just keep in mind that any taxable gifts exceeding that annual amount would then be applied to the lifetime exemption.  With that foundation established, let’s look at account types.

Taxable Accounts: Savings, CDs, Brokerage, UGMAs and UTMAs

Taxable accounts come in a variety of forms from traditional savings accounts and CDs to brokerage investment accounts.  Calling an account “taxable” simply means that it is a normal account with no special tax treatment.  Your checking and savings accounts at the bank are taxable accounts.  The question of whether to open a savings account, CD, or brokerage account is largely about safety of principal and expected returns.  Your savings account or CD will be FDIC-insured up to FDIC limits which means a very low risk of loss, but these types of investments typically do not have high long-term returns.  When investing for a longer-term goal many years down the road you will have a wider range of investment options with greater long-term growth potential in a brokerage account.  A brokerage account will give you access to stocks, bonds, mutual funds, ETFs and many other investment opportunities.  While these do have greater long-term growth prospects, they will not be FDIC-insured.  With higher potential return comes higher risk in the form of volatility.  Regardless of whether you open an account at a bank or a brokerage account, the basic form these accounts take is that of a taxable account.  The next question is account registration, or how the account is titled.

When saving for your child, you could simply open a separate savings or investment account in your name and start setting some funds aside. 

This is an option, but there are some things to think about.  For one, any income on investments such as interest and dividends received will be taxable to you at your applicable tax rate.  When it comes time to sell appreciated investments, you will be paying capital gains taxes at your tax rate as well.  If the money is being saved for college, there are other options with greater tax efficiency which we will explore later.  A second consideration is the gift tax. Remember that you can only give up to the annual exclusion amount each year before amounts given apply to the lifetime exemption.  This means that transferring a large account balance to your child at some point in the future could mean a sizable hit to that lifetime exclusion.  However, you are able to pay for tuition directly for your child without that being considered a gift so long as that payment goes directly to the educational institution.  But what if you want your child’s name on the account?

It is also possible to open an account with you and your child as joint owners. 

However, there are some drawbacks to this approach.  For one, your deposits into a joint account may be viewed as a current gift if you are the only one making the deposits and the other joint owner (your child) has reasonable access to immediately withdraw those funds, or in fact does withdraw the funds.  This brings us to the second point that, in a joint account each owner has joint ownership over the assets and can withdraw at will.  For most people saving for their children, they want to retain a bit more control over the money they are setting aside.  This is where custodial accounts come into the picture.

A custodial account, such as an UGMA/UTMA (Uniform Gifts/Transfers to Minors Act) account, is simply an account in the name of a minor with a custodian, typically a parent, directing the investment of the assets until the minor reaches age of majority. 

As the name would suggest, this is only an option for minors.  If you are saving for an adult child, then this option is off the table.  There are some differences between UGMA and UTMA accounts, primarily that UTMAs allow real estate and real property assets where UGMAs do not.  However, both allow investment in cash, stocks, bonds, mutual funds, ETFs, and the like so the distinction isn’t important unless you plan to put a car, a house, or some other property into it.

When you put money or property into an UGMA/UTMA it is considered an irrevocable gift to the minor beneficiary of the account.  This means that it cannot be reversed once the transfer or deposit is made.  It is considered a taxable gift, so any amount above the annual exclusion limit will be applied to the lifetime exemption.  Because the assets become the property of the minor, there are two important considerations.  The first is that the custodian will be removed from the UGMA/UTMA when the minor reaches age of majority (either age 18 or 21 depending on state law)i.  Many parents may not be comfortable with their 18 or 21 year old child having unlimited access to a large pool of assets all at once.  After the custodian is removed from the account it is an individual account in the name of the beneficiary and the parent will not have any legal authority to direct those assets to a specific goal, such as college.  The second is that, if the money is paying for college, it is considered part of the child’s assets with respect to the Expected Family Contribution (EFC)ii.  

The EFC is determined when completing the FAFSA (Free Application for Federal Student Aid) or other financial aid application to determine how much your family is expected to contribute to the cost of college.  The student’s assets are assessed at a flat rate of 20% on the FAFSA while parental assets are assessed at a bracketed scale of up to 5.64% so this can have a meaningful impact on the amount of financial aid awarded.  The EFC is a complicated topic too broad for this article, but additional information can be found in a link in the footnotes of this article.  The bottom line is that an UGMA/UTMA may be a great solution for a general financial goal particularly for children who are likely to be financially responsible with the funds when they reach age of majority, but there are other options that may be more suited to a college education goal.  Enter the 529 plan account. 

529 Plans (Qualified Tuition Programs)

A Section 529 plan account, also known as a Qualified Tuition Plan (QTP), is a tax-advantaged program to help families save for college expenses. 

A 529 plan offers several benefits for college savers that the aforementioned account types do not including tax-free earnings growth, possible state income tax deductions on contributionsiii, and tax-free withdrawals so long as the funds are used to pay for qualified education expenses.  Qualified education expenses are defined by the IRS as “expenses related to enrollment or attendance at an eligible postsecondary school” and include tuition and fees, books, supplies, and equipment required by the school.iv  A full list of eligible expenses is available from the IRS in Publication 970 linked in the end notes of this article.  If the money is ultimately not used for higher education purposes, then they can be withdrawn, but the earnings are considered taxable income and subject to a 10% penalty tax.  This penalty can make some savers hesitant to use a 529 plan.  After all, what if the money isn’t used for college?  It’s an understandable concern, however, there are several options available to avoid ever having to pay this penalty which will be described later.  Given the tax benefits offered by 529 plans, they are a strong contender for savers planning on college expenses.

Much like an UGMA/UTMA custodial account, a 529 account has both an owner and a beneficiary.  A common way to establish a 529 is for a parent to be owner and a child to be the beneficiary.  The owner directs investments and, perhaps more importantly, distributions from the account while the beneficiary is the individual for whom those distributions must be made to qualify for tax-free withdrawals.  Unlike an UGMA/UTMA, there is no deadline at which the account expires and becomes the sole asset of the beneficiary.  This means the owner can retain control of the funds indefinitely.  The owner and beneficiary need not have a particular relationship.  This means that grandparents, siblings, aunts, uncles, and even family friends can open a 529 on behalf of their chosen beneficiaries.  In fact, the owner and beneficiary can be one and the same person.  Anyone can contribute to a 529 regardless of the owner which means you can establish a 529 for your child and family members and friends can make contributions to this one account.  While we’re on the topic of contributions, let us take a moment to consider limits.

There is no annual limit on contributions to a 529 plan, however there are gift tax considerations and there is an aggregate limit. 

While there is no rule limiting annual contributions to a 529 plan, the contributions to the account are considered a gift to the beneficiary.  This means that up to the annual exclusion amount of $17,000 in 2023 ($34,000 for married couples) can be given by each contributor (donor) per year without applying to the lifetime gift tax exemption amount.  There is also a special rule for 529 plan accounts under which a donor can make a lumpsum contribution of up to 5 years’ worth of contributions ($85,000 in 2023, $170,000 for married couples) and have it treated as though it were given over a 5-year period.  This is one way to jump start a 529 plan account balance, called “superfunding”, without whittling down the lifetime gift tax exemption amount.  Although there is no rule limiting annual contributions to a 529 plan there is an aggregate limit on the total account balance.  Once a 529 plan account balance reaches a certain limit no more contributions to the account are allowed, although earnings can continue to accrue.  The specific limit is determined by state law and ranges to upwards of $550,000 in 2023.v  It may also be possible to rollover an existing UGMA/UTMA account into a 529 Plan depending on state laws.

Above it was noted that an UGMA/UTMA account is considered an asset of the child when determining the EFC which is used to determine the amount of financial aid awarded to a student.  This is not as cut and dry with a 529 plan.  A 529 plan account owned by a parent is considered an asset of the parent and is assessed on the bracketed scale of up to 5.64%.  This means that a 529 plan balance owned by a parent has a smaller impact on financial aid eligibility than an UGMA/UTMA balance.  Further, a 529 plan balance owned by a less direct family member such as a grandparent isn’t factored into the equation at  On the topic of distributions, qualified distributions from a 529 plan account owned by a parent is not counted as income and so doesn’t have an impact on the EFC.  With recent changes to FAFSA income reporting rules, distributions from a grandparent-owned 529 plan are no longer considered income and may be a valuable source of college support that does not impact financial aid eligibility.vii

A 529 Plan is just an account type and does not determine the investment of the 529 Plan funds.  Each state offers at least one, and sometimes several, 529 accounts which are administered by banks, mutual fund companies, investment firms, and the like.  This means that college savers have options when it comes to their 529 plan and the type of investment they can use.  Banks may offer FDIC-insured savings accounts and CDs.  For those savers with more time before enrollment, investment firms often offer a line-up of mutual funds to choose from similar to the way a 401k offers a handful of investment options.  For self-directed investors, there are often a few stock and bond mutual funds in the list to put together your own mix.  For those seeking a one-fund investment solution many plans offer an enrollment-date fund similar to retirement- and target-date mutual funds.  Note that 529 Plan investments can only be changed twice per calendar year.  For those investors expecting significant growth over many years, the tax-free growth and tax-free qualified withdrawals offered by a 529 Plan account can make this an attractive option.

There are clearly a number of benefits for college savers associated with 529 Plan accounts, but what about that 10% penalty?  Not everyone goes on to attend college and there is understandable hesitation to save in a 529 plan when considering that a 10% penalty tax awaits those who close out a 529 Plan account without using the funds for college.  First, let’s understand when the tax consequences apply and what exact taxes and penalties to expect.  The tax consequences occur if funds are withdrawn from a 529 Plan account and NOT used for “qualified education expenses”.  Now this doesn’t just mean a traditional university, so your beneficiary could use the funds at a vocational school for instance.  According to the IRS, “an eligible postsecondary school is generally any accredited public, nonprofit, or proprietary (privately owned profit-making) college, university, vocational school, or other postsecondary educational institution.”  But what if your beneficiary needs the money for other purposes?  

If the money is withdrawn for a non-education purpose, such as a downpayment on a car or house, then this is a non-qualified withdrawal.  In the case of a non-qualified withdrawal the principal (the money deposited into the account as contributions) is returned tax-free and only the earnings (growth on the contributions) are taxed as ordinary income and assessed an additional 10% penalty tax on top of the ordinary income tax.  As an example, if a total of $10,000 had been contributed to a 529 Plan account and it had grown to $11,000, then the account has $1,000 in earnings.  Upon closing out the account and taking the funds as a non-qualified withdrawal, the $10,000 comes back out of the account tax free.  The $1,000 is assessed an ordinary income tax rate (let’s say 24% for this example) plus a 10% penalty tax for a total of $340 (34% of $1,000).  The net withdrawal after taxes is $10,660 in this example.  It is possible that a state may impose a separate penalty tax (e.g., California assesses a 2.5% penalty tax) and if you took a state tax deduction for contributions, you may have to pay tax you would have owed without those deductions.  There are also exceptions to the penalty tax including receipt of scholarships or education tax credits, attendance at a U.S. military service academy, and disability among others.viii  If the beneficiary ultimately decides not to pursue postsecondary education and no exception applies there are two other options available.  

The final two options for avoiding the taxes and penalties are family portability and, thanks to the SECURE Act 2.0, the newly minted 529 rollover to Roth IRA.  Family portability refers to the fact that the beneficiary of a 529 plan can be changed to a “member of the beneficiary’s family” which the IRS defines broadly and includes blood relatives as well as relatives by marriage and adoption.ix  This can be accomplished by simply completing a beneficiary change form with the 529 Plan custodian or by a rollover from one account to another (529 Plan rollovers are limited to one per 12-month period).  Some planning options that arise from the family portability rule include changing the beneficiary to a younger sibling, or even changing the owner to the beneficiary to allow them to save it for their future education or even children of their own.  There is no RMD-equivalent on 529 Plans and the money can remain in the account indefinitely.  With the passage of the SECURE Act 2.0 a new option is now available for some 529 Plan beneficiaries.  The rules state that funds from a 529 Plan account can be rolled over to a Roth IRA in the name of the beneficiary, but this comes with some limitations.  The 529 Plan must have been maintained for at least 15 years, any contributions to the 529 plan within the last 5 years are ineligible, the annual limit on this type of transfer is the IRA contribution limit less any ordinary Roth IRA contributions, and the lifetime maximum 529-to-Roth-IRA transfers is $35,000 per individual.  While this may be a useful option for cleaning up leftover 529 Plan funds after college has been completed, it won’t be a complete solution for large 529 Plan account balances.

529 Plan accounts have a lot of rules, and it can be hard to keep it all straight, so let’s review.  A 529 Plan account provides tax incentives for college savers in the form of tax-free growth, possible state income tax deductions, and tax-free qualified withdrawals.  Unlike an UGMA/UTMA account, the 529 Plan provides a parent or guardian with indefinite control of the funds for the benefit of the beneficiary.  Although there are some limits on 529 contributions in the form of gift tax limits and aggregate balance limits, there is flexibility in the form of superfunding an account and anyone can contribute.  There is, of course, the concern that the funds may not be used for college, but there are ways to avoid the penalty.  With an abundance of 529 Plan knowledge now under your belt, let’s look at a different saving and investing option, the Roth IRA.

Roth IRAs

Roth IRAs are a type of retirement account, but they can be an effective tool for saving for college and retirement simultaneously. 

In comparison to a 529 Plan a Roth IRA has different rules regarding contributions, investment options, and withdrawals.  It is also worth noting how a Roth IRA may impact the calculation of the EFC.  While you can save in your own Roth IRA and use some of those funds to help pay for your child’s college, it is a good rule of thumb to treat your retirement accounts as savings for your own retirement rather than for another financial goal.  This section will focus on a Roth IRA in the name of your child, but the rules about contributions and withdrawals will be the same for you and your child.

Unlike a 529 Plan, Roth IRAs do have an annual contribution limit.  For those under the age of 50 that limit is $6,500 in 2023 or 100% of taxable compensation.  Unlike 529 Plans and UGMA/UTMA accounts, third parties cannot fund a Roth IRA for someone else.  The contributions must come from the owner of the Roth IRA.  Instead, you can gift up to $6,500 to your child and they can then fund the Roth IRA with this money.  Since this amount is less than the gift tax annual exclusion, that is unlikely to be an issue unless you are also gifting to a 529 Plan or UGMA/UTMA in the same tax year.  It is important to note that, to fund a Roth IRA, the owner must have “taxable compensation”, defined by the IRS as wages, salary, commissions, and self-employment income among other sources.  Taxable compensation generally excludes passive income like that from investments.x  This rule can create a roadblock to funding a Roth IRA for young children.  On the other hand, if a parent is funding their own Roth IRA with the intention of using some of those funds for their child’s education, they need to be aware of earned income limitations on Roth IRA contributions.  Eligibility to contribute to a Roth IRA begins to “phase out” with a Modified AGI of $218,000 for those married filing jointly and is completely phased out at $228,000 (for single filers and heads of household the range is $138,000 – $153,000).  What this all means is that annual contributions to a Roth IRA are much more limited than contributions to a 529 Plan or UGMA/UTMA account.

Whereas Roth IRAs have a relative limitation on contributions when compared to the other account types discussed so far, they are not so limited with regards to investment options. 

Roth IRAs can be established as simple bank products such as savings accounts and CDs or as brokerage accounts with access to the full world of investment options including stocks, bonds, mutual funds, ETFs, and more.  In this way they are much more like an UGMA/UTMA account than they are to a 529 Plan which has a limited set of mutual fund investments available and a limit of two changes to investments per calendar year.

When it comes time to take withdrawals from the Roth IRA there are several rules to consider. 

First is the order of withdrawals which is contributions first, then conversions (if any), then earnings.  Contributions can be withdrawn from a Roth IRA at any time tax free since those dollars were contributed after tax.  Since withdrawals come from contributions first, this means that your child can take back out what they put in before worrying about taxes.  If a Roth IRA owner taps into earnings prior to age 59 ½, those earnings are subject to ordinary income tax and a 10% early withdrawal penalty tax.  There are exceptions to the 10% penalty under IRS Rule 72(t)(2)(E) including when those funds are used for qualified higher education expenses and for qualified first-time homebuyers.xi  There is no limit on how much can be used for qualified higher education expenses, but only $10,000 is exempt from the penalty if used for a downpayment on a house as first-time homebuyer.  This means that a Roth IRA offers more flexibility as to how the funds can be used by your child rather than being limited to education expenses as with a 529 Plan.  One way for young people to use a Roth IRA for multiple goals is to only withdraw the contributions for college or other expenses and leave the earnings untouched as a jump start on their retirement savings.  If they can leave the earnings untouched to grow for several decades, they may have a decent lumpsum available to them tax-free at age 59 and a half.

It is also worth examining the impact a Roth IRA may have on the EFC and potential financial aid.  Unlike a 529 Plan or an UGMA/UTMA, a Roth IRA of either the student or parent is not reported as an asset on the FAFSA which means simply owning a Roth IRA does not impact financial aid eligibility.  However, withdrawals from a Roth IRA can be considered income on the FAFSA.  So long as only contributions are withdrawn from a Roth IRA, the withdrawal will not increase reportable income and will not affect the EFC.  However, should the Roth IRA owner tap into the earnings on the account, they will need to report this income on their tax return and this will be reportable on the FAFSA.  In prior years a student withdrawing even contributions from their Roth IRA could have a significant impact on the EFC since it was reported as “untaxed income” and assessed at a 50% rate.  However, due to recent changes to the FAFSA, students no longer need to report “untaxed income” which makes a student’s Roth IRA a more viable option to help pay for college.

To summarize, a Roth IRA provides more investment options than a 529 Plan and has tax-deferral not offered by an UGMA/UTMA account. 

With regards to flexibility of use it falls somewhere between a 529 Plan and an UGMA/UTMA.  While a Roth IRA can be used for non-college expenses with less tax implications than a 529 Plan, the limitations on withdrawal of earnings makes it somewhat less flexible than an UGMA/UTMA from a tax perspective.  The biggest limitations of a Roth IRA when compared to a 529 Plan or UGMA/UTMA is the relatively low annual contribution limit and the requirement for the owner to have taxable compensation.  The Roth IRA may not be a complete college savings solution on its own but pairing it with a 529 Plan and/or UGMA/UTMA can provide plenty of planning opportunities for your child in the future.

Education Savings Bonds

You may recall receiving some paper U.S. savings bonds from a parent or grandparent at some point in your life.  While banks no longer issue physical paper bonds and the government has adopted electronic issuance of these bonds, this is still an option to help your child save for the future.  A U.S. savings bond can be purchased directly from the U.S. government via the TreasuryDirect website.xii  These bonds cannot be sold to another investor, but rather are redeemed back to the government when the bondholder decides to cash out.  U.S. savings bonds can be purchased for as little as $25 with a limit of $10,000 face value purchased in a single calendar year and are considered a very low-risk investment.

The most common types of U.S. savings bond are the Series EE and Series I which are purchase at face value and typically accrue interest over a 30 year period. 

Series EE bonds used to be issued at a 50% discount and reach face value after 20 years.  With the switch to electronic issuance, these bonds are now issued at face value but are still guaranteed to double in value over the first 20 years of the term.  Both Series EE and I bonds accrue interest, however EE bonds pay a fixed rate while I-bonds have both a fixed interest rate component and a variable component tied to the inflation rate.  We wrote an article several months ago detailing how I-Bonds work which can be found here.  These bonds can be redeemed once they have been held for at least 12-months.  If a U.S. savings bond is redeemed in less than 5 years, then the last 3 months of interest is forfeit.  After 30 years these bonds will stop accruing interest.

Upon redemption of a U.S. savings bond, the interest is taxable at the federal level, but it is exempt from state and local taxes.  When this money is used for qualified higher education expenses, the interest may be exempt from federal taxes as well, but there are conditions that must be met.  First, the bonds must have been issued to an individual at least 24 years old to qualify for this exemption.  This means that the bonds should not be in your child’s name.  Second, there is an income limit.  The interest income exclusion begins to be phased out with a Modified AGI of $137,800 for married individuals filing jointly ($91,850 for all other filers).  This means that U.S. savings bonds are not a good college savings solution for high income earners.  Finally, the bonds must be cashed in the same year the exclusion is claimed and you must have paid qualified higher education expenses to an eligible institution for you, your spouse, or a dependent in that same tax year.  Married individuals filing separately do not qualify for this exemption.


There are many options available to help set your child up for financial success and which option you choose is largely dependent on your goals.  It is possible that some combination of all of these account types is appropriate to prepare for a wide variety of financial objectives.  If the primary goal is saving for college, a strong case can be made for the 529 Plan, but there are limitations on how this account type can be used for other large financial goals many young people face including buying a car, moving to a new town or city, and buying their first home.  An UGMA/UTMA can be a fantastic booster for a child to pursue those non-education goals, but it is important that they be financially responsible enough to take over management of the assets at 18 or 21 years old.  It is also important to plan around how that asset may impact financial aid for college, if postsecondary education is in the cards.  A Roth IRA provides somewhat of a middle ground approach with greater flexibility of use than a 529 and without the impact on financial aid that an UGMA/UTMA creates.  It also may jump start retirement savings at a very early age.  However, the taxable compensation rule and relatively low contribution limits make it an unlikely candidate for a total solution for college savings.  We hope this has been a helpful primer on the various account types you may use to save for your child.  When saving for college specifically, there are even more things to consider including prepaid tuition programs, Coverdell Education Savings Accounts (CESAs), scholarships, grants, and tax credits.  If you need assistance planning for college or other financial goals for you child, please contact us.  

i Age of Majority and Trust Termination – Finaid

ii What is the Expected Family Contribution (EFC)? –

iii Browse 529 Plans by State, Name, Type and More – Saving for College

iv Publication 970 (2022), Tax Benefits for Education | Internal Revenue Service (


vi How do 529 plans Affect Financial Aid? –

vii Understanding the 529 Grandparent Loophole (

viii How to Avoid the 10% Tax Penalty on Non-Qualified Distributions (

ix Who is a Member of the Family of a 529 Plan Beneficiary? (

x Publication 590-A (2021), Contributions to Individual Retirement Arrangements (IRAs) | Internal Revenue Service (

xi Retirement Topics Tax on Early Distributions | Internal Revenue Service (

xii Home — TreasuryDirect

Michael Carrico

Michael Carrico is a Wealth Manager at Howe & Rusling.


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