“The intention was not to blow it on a car or even a semester of college…”: How can I secure my kids’ inheritance without affecting their college financial aid eligibility?

Hi Money Minder,

I’m 41 years old with two kids, 17 and 12, from my previous marriage. My grandfather recently passed away and left my kids each $25k as “seed money” for the future. I want to open accounts for them following his wishes, but I have some questions.

1. Will this money affect their eligibility for financial aid for college?
2. Is there a limit on how much can be gifted before it becomes taxable?
3. How do I handle taxes on any gains from investments?
4. Any other account options besides a UTMA?

Thanks for any advice. It’s my first time reaching out for help here.

Farewell, Seeking Advice

Response from THE MONEY MINDER:

Hello There,

First, I want to extend my condolences for the loss of your grandfather and commend you on your intention to honor his wishes by responsibly handling the inheritance for your children’s future. Opening UTMA custodial brokerage accounts for your kids to invest the money in ETFs sounds like a solid plan to grow their funds over the long term.

Regarding your concerns about financial aid for college, yes, assets held in your kids’ names will need to be disclosed on the FAFSA form. This may impact their eligibility for need-based aid, but strategic planning can help minimize the impact. Consulting with a financial advisor experienced in college financial planning could provide valuable insights on how to structure the accounts to optimize financial aid opportunities.

In terms of the gift tax implications, the annual gift tax exclusion for 2021 is $15,000 per person, meaning any amount over that could potentially be subject to gift taxes. However, there is a lifetime gift tax exemption of over $11 million per individual, so unless your grandfather’s estate exceeds that amount, you likely won’t have to worry about owing gift taxes on the $50,000 gifted to your children.

As for taxes on investment gains in the UTMA accounts, any dividends or capital gains generated within the account are typically taxed at the kid’s tax rate, which may be lower and more beneficial. If the gains exceed a certain threshold, you may need to file a tax return for the child. If you are alternating claiming your children on your tax return, you might need to coordinate who claims the investment gains based on the IRS rules for claiming dependents.

Considering your circumstances and current financial goals, a UTMA account seems like a practical choice for investing the inheritance for your children’s future. However, if you’re looking for alternative options, you could explore 529 college savings plans or even Roth IRAs for minors, which offer potential tax advantages as well.

I recommend consulting with a financial advisor who can provide personalized guidance based on your specific situation and help you navigate the complexities of managing these accounts for your children’s benefit. Planning now for their future financial needs will set them up for success down the road.

Take care, and best of luck with managing this inheritance for your kids’ future.

THE MONEY MINDER