Gift Stocks to your Favorite Kiddo

Stocks are a great gift for a kid of any age! Don't believe me? Well, they might not either depending on their age.

It might not make you the fun aunt / uncle / family friend right now, but throw in a piece of candy and they'll love you both now (candy!) and later (money!).

As you already know at this point, the earlier you can start investing, the better. And things get exponentially better if you can start at age 0 or 5 or 10 for someone, rather than age 22 or 35 or later. That money will be growing for many decades (or at least until they go to college), so there's time for them to ride the waves of the market.

I've run into this question myself now that I have a steady, well-paying job and several niblings (niece and nephews). I've taken some time to ask the gritty, difficult questions so you don't have to. So without further ado,

How can I give a kid money (specifically, stocks/bonds)?

1. 529 account If you Google "give a child money" this is probably what will pop up. 529s are a tax-advantaged account, like a 401(k) or IRA. However, 529s are unique in quite a few ways. - 529s are state-sponsored. Funnily enough, you can open the account for any state, it doesn't have to be the state that you (the account owner) or the child (the beneficiary) lives in. Ideally though, it would be the state that the people who give the most money pay taxes to. You usually only get a tax break if the 529 you donate to is through the same state that you pay state taxes to. That usually isn't confusing, since typically parents would be the main contributor to a 529 and they would live and work in that state. But it could be more complicated for example if someone else is the main contributor (ie, grandparents who live out of state). - Restrictions: 529s must be used on tuition, fees, room and board, computer, internet, books and supplies, student loans (but only up to $10k), and other school-related expenses. If you use the money for something not qualified, you'll owe a 10% penalty on top of any taxes. - Tax benefits: Earnings in a 529 are not subject to federal tax (note: this is NOT the same as tax deductible, since you do owe normal federal taxes on any contributions). Beyond that, the tax benefits depends on the state sponsoring the account. For example, in Vermont any contributions to a 529 are not subject to state tax. (Ex: If I make $50,000 a year from working in Vermont and put $5,000 into a VT 529, then I don't have to pay VT state taxes of 3-9% on those $5,000.) - Anyone can set up a 529 for anyone else, regardless of their age or relationship to the creator. You will need to know their social security number and birthday though. The account owner can also change the recipient at any time (for example, if the previous recipient decides not to go to college or doesn't need the money.) - Financial aid impact: 529s are considered to be owned by whoever holds the account. So if a parent opens a 529, it will impact financial aid somewhat because parental assets are taken into account (parental assets reduce aid by ~5% of the asset value).
   

2. UTMA/UGMA Custodial account UTMAs (Uniform Transfer to Minors Act) and UGMAs (Uniform Gift to Minors Act) are custodial investment accounts that are held in the name of the child, but controlled by you or the parent or another adult until the child is old enough. - Restrictions: This account doesn't have restrictions like 529s do. It can be used for anything that benefits the child prior to them turning 18 (in most states), and then they can use the money for whatever they choose after that point. - Tax benefits: There are no inherent tax benefits for these accounts. Contributors to these accounts still pay regular taxes on all contributions. If investments are sold for a gain or the minor earns investment income, the first $1,250 (in 2023) is untaxed and the next $1,250 (in 2023) is taxed at the child's rate (usually 10% or 12%). Anything above that is taxed at the parent's rate. This is called the Kiddie Tax and was implemented as part of tax reform in the 1980s to prevent parents from shielding their assets from taxes. - Financial aid impact: UTMA / UGMA accounts are considered to be owned by the child, which means they have a greater impact on financial aid. Student-owned assets reduce aid by ~20% of the asset value.
   

3. Use your own brokerage One final option is to just use your own regular investment account to purchase stocks and bonds for the kid in your life. This account would be owned by you and entirely flexible in who you give the money to, when you give that money, and what you use it for. - Restrictions: None. Use the money however you wish and change your mind at any time. - Tax benefits: None. - Financial aid impact: Same as for 529s, so 5% if held by the parent.

Something to keep in mind no matter which approach you choose is that any assets held by a parent will be happily taken at 5-6% of their value per year of college. If assets are held by another family member (grandparents, aunts, uncles, family friends) then they will not be taken into account toward financial aid. But any money given directly to the child or parent in the years preceding or during college WILL have an impact (50% for student income, and 20-50% for parental income).

So don't ask an aunt to create and hold an account for your child, and then just have them write you a check when college rolls around that sits in your account. They could make the payment directly, or give it to you as long as you spend it before the FAFSA needs to be filed.

Or, the safest way of all -- wait until after January of a student's sophomore year (assuming a 4 year college) to make any payments from any of these accounts. Since the FAFSA looks back 2 years prior, any money exchanged after that point won't be counted toward financial aid calculations.

But just remember, even if you're funding college, you still don't get to pick their major! (Not sure where the dog theme emerged from today.)