Best Ways to Save for College, Pt. 4: 529s vs. UGMA/UTMA vs. Crummey Trusts

Are you considering using a trust to save for your child’s education? In part four of our 5-part series on the best ways to save for college, we’ll walk through two simplified trusts that are commonly used for education: UGMA/UTMA and Crummey Trusts.

Today, we’ll show you that while UGMA/UTMA and Crummey Trusts do offer flexibility, they are often a poor choice for educational savings. Between financial aid impact, taxation, and lack of control, trusts fall short of other tools like 529 College Savings Plans.

What is a trust?

A trust is simply a legal agreement that creates a grouping of assets with instructions on how these assets should be distributed. A grantor, or trust creator, helps create the legal agreement and then titles assets in the name of the trust (in other words, the trust is the legal owner of those assets). Then, this person appoints a trustee who is charged with managing and distributing the assets for the named beneficiaries. UGMA/UTMA Trusts and Crummey Trusts are two specific types of trusts that are often used to for educational savings.

UGMA/UTMA

Commonly called a UGMA/UTMA, these Custodial account are often used to save for a child’s future college expenses. UGMA stands for the Uniform Gift to Minors Act, which allows for minors to own stocks, bonds, mutual funds etc. The Uniform Transfer to Minors Act is similar, but expands the allowed holdings to include real estate and some other assets.

With these accounts, you are gifting assets to your child over time. You continue to manage those assets on behalf of the child, until they reach age 18 or 21. These assets can be used for anything that is in the benefit of the child, which is much more flexible than some other savings vehicles. However, there can be some huge unintended consequences from doing this, specifically in regards to financial aid and taxation.

Pros

  • Flexible Spending: No restrictions on what the money can be spent on. No penalty for spending the money on non-education related expenses.

Cons

  • Hurts Aid: FAFSA classifies these accounts as the asset of the student in consideration for financial aid. This will have a large impact on the amount of aid granted.
  • Taxable: The earnings and gains are taxed. Any significant amount of unearned income is taxed at the parents’ higher tax rate.
  • Lacks Transferability: No ability to transfer the funds to another beneficiary. A contribution is an irrevocable gift to the child.
  • Child Controls: At age 18 or 21, the assets are no longer in custody of the parent. This means the child would be able to spend the money on things other than education.

Crummey Trust

Named after the first person to use one, a Crummey Trust is a bit better than the name might suggest. While the pros and cons are essentially the same as the UGMA/UTMAs above, there is one distinct difference: With a Crummey Trust, you can set your own “termination date” to maintain control of the account.

Here’s how it works. You offer the beneficiary a window (typically 30 or 60 days) to withdraw a contribution after it is made. Once the window closes, that transfer to the trust becomes final and cannot be removed by the beneficiary until the trust terminates. Unlike above, you can specify a later termination date so that the beneficiary has no right to receive the assets at age 18 or 21. As long as the beneficiary cooperates and does not withdraw during the window, then it can protect against the money going towards unintended uses.

Pros

  • Flexible Spending: No restrictions on what the money can be spent on. No penalty for spending the money on non-education related expenses.
  • Flexible Termination Date: Unlike a UGMA/UTMA, Crummey Trusts can have later termination dates to delay transfer of control to the beneficiary.

Cons

  • Hurts Aid: FAFSA classifies these accounts as the asset of the student in consideration for financial aid. This will have a large impact on the amount of aid granted.
  • Taxable: The earnings and gains are taxed. Any significant amount of unearned income is taxed at the parents’ higher tax rate.
  • Lacks Transferability: No ability to transfer the funds to another beneficiary. A contribution is an irrevocable gift to the child.
  • Withdrawal Window: Beneficiary has a window of time to withdraw the money after a contribution is made, which could result in unintended uses of funds.

A 529 College Savings Plan offers simplicity, low costs, and tax efficiency that trusts just can’t match. If the primary goal is to save for college and not to gift a large amount of money to your child, then a 529 plan is most likely your best option. With favorable financial aid treatment, retained control of the assets, and transferability, it is a savings vehicle designed specifically to help parents save for the high cost of college.

CollegeBacker is here to provide even more simplicity during this process. If you have questions surrounding if a 529 is right for your situation, send them to support@collegebacker.com.

This is the fourth of a 5-part series comparing options to save for college.