One of the main reasons parents or guardians look forward to opening a custodial investment or brokerage account for their children is to give them a head start towards being financially independent.
The custodial account works the same as any brokerage account or demat account and can be used to buy and sell all kinds of securities. However, the account, though in the name of the child, is operated by the parent or guardian who opened the account. This is because a minor cannot open their brokerage account. Granted that the minor does not manage the account but the assets in it still belong to the minor.
However, till the minor turns 18 or 21, all decisions regarding any investments are made and executed by the minor’s parents or guardians.
Custodial accounts are of different types and depending on their financial goals, the parent or guardian can choose the one that they want to open for their child.
Types of Custodial Account
There are two main types of custodial accounts
1. UTMA or Uniform Transfers to Minors Act accounts:
- Holds all asset types from vehicles to real estate, precious metals, etc.
2. UGMA or Uniform Gifts to Minors Act account:
- Holds limited shares
- Some examples include gifts of cash, stocks, mutual funds, etc
Opening a Custodial Account
Here is the step-by-step process to open demat account or open a custodial account
- Select the right broker
- Parents or guardians first need to zero in on the right for their child’s needs.
- Keep the time horizon of the investment in mind when taking your pick
- The current financial position and the financial goals should also be kept in mind when making this decision.
- Remember to add both your personal and funding details:
- Most accounts can easily be opened online quickly.
- Personal details like the Aadhaar numbers of the parent/guardian and the minor would be required.
- Contact, employment and any other identifying information would also be required.
- Account Funding and Management:
- The last step that goes into opening a custodial brokerage account is to fund and manage it
- Funding ensures that there is money to invest in the account
- Once the investments are made, the parent/guardian would also need to manage these investments.
- Funding can be done through cash, stocks, or mutual fund transfers.
Tax Considerations to Keep in Mind
Depending on the account, any income generated from the investments made can incur taxes. This can happen either at the account holder’s tax rate or the beneficiary’s tax rate. Sometimes, tax can be incurred even on contributions made to the custodial account. Tax implications will, more often than not, vary according to the account.
Benefits of Opening a Custodial Account
Some of the main benefits of opening a custodial account are listed below:
- The setting up process of a custodial account is very easy when compared to an open demat account
- The flexibility of a custodial account is another benefit as it can be used for anything that could help the minor including education, medical expenses, etc.
- Since there are no administration costs in setting up a custodial account, they are easier and cheaper to set up.
Conclusion
Custodial accounts act like any other brokerage account or Demat account and make for a great way through which parents or guardians can ensure a brighter financial future for their child. With the help of the account, parents/guardians can invest in securities that will help bring profitable returns to secure the child’s future and once the child is over 18 or 21, they can take over the management of the account for themselves.
Frequently Asked Questions
Q1: What is a brokerage account for a child?
A brokerage account for a child is an investment account that allows parents or guardians to invest in stocks, bonds, mutual funds, and other securities on behalf of their child. These accounts are typically set up as custodial accounts, where the adult manages the assets until the child reaches legal adulthood.
Q2: What types of brokerage accounts can I open for my child?
There are two common types of accounts for minors:
- Custodial Accounts (UTMA/UGMA): These are managed by an adult custodian until the child turns 18 or 21, depending on the state.
- 529 Plans: Designed for educational savings, these accounts offer tax advantages for funding your child’s future education.
Q3: What are the benefits of opening a brokerage account for a child?
Opening a brokerage account for your child helps them:
- Gain early exposure to investing
- Build long-term wealth through compound interest
- Learn valuable financial and investment skills