Tax on UGMA account

[chuck]

Hi - I am hoping that someone here can help answer a question that I have regarding the taxation on a UGMA account. This account was set up by my parents, and is now legally mine since I am 23 yrs. old. I would like to sell it since it represents a large part of my net worth and is not properly allocated for me (all in 3 individual large cap stocks). However, I wanted to see if it made sense from a tax standpoint - will i have to pay for the capital gains on the accounts, or is the whole thing considered income? Is there anything else i should know?

Thanks,
Charley

[Ima saver]

I am pretty sure you just have to pay for the capital gains.

[sweeps]

Yes, you must pay capital gains and/or dividend taxes on the earnings (but not the contributions).

[chuck]

Thanks Ima saver and Sweepsplayer. It is good to get an answer on this; I tried reading the IRS website but couldn't decipher a definitive answer.

[Ima saver]

Who can understand the IRS?

[suedavids]

Originally Posted by chuck

Hi - I am hoping that someone here can help answer a question that I have regarding the taxation on a UGMA account. This account was set up by my parents, and is now legally mine since I am 23 yrs. old. I would like to sell it since it represents a large part of my net worth and is not properly allocated for me (all in 3 individual large cap stocks). However, I wanted to see if it made sense from a tax standpoint - will i have to pay for the capital gains on the accounts, or is the whole thing considered income? Is there anything else i should know?

Thanks,
Charley

Charley,

First, since your parents were wise to set this up for you, I would seek their counsel to see if they have strong feelings about what you should do with the stocks/money. There is a rule of thumb about individual stocks. They should not make up more than 4% each of your portfolio. Diversification is important to guard against downturns in specific stocks (such as ENRON). I would suggest that you diversify into index funds for tax efficiency. An index such as the Total Stock Market Index would do well for you and some international exposure (index). Stay away from brokers with commissions and loads- they will be happy to take your money!!! Don't chase high flyers.

Your UGMA stands for Uniform Gift to Minors Act. In actuality there is a tax advantage for UGMA on young children. This is not your case now. You do not have to cash it in or sell your stocks if you don't want to. Instead you can just have your financial institution change the name and account. This year I gave my daughter her UGMA and they converted it to her name and her husban. I would be very careful about selling the stock portfolio since there will be capital gains if held over a long period of time. Your financial institution or your parents will be able to tell you the cost basis (the amount that was paid for the stock funds) and the long term and short term capital gains. Short term capital gains (held under 1 year) are taxed at your ordinary income levels. Long term are taxed at the following rates:

Long term tax rate of 5% - if the taxpayer is in the 15% bracket or below (this is at an approxamate income level ( if single) of under $30,000. So if you sold stock, your total income (job) plus the gains on any sales of equities (stocks or mutual funds) could not exceed this amount.

Long term tax rate of 15%- if the taxpayers are above the 15% income bracket.

This year, I am actually selling and then reinvesting a portion of my kids mutual funds from their UGMA (must be over 14 yrs. or older otherwise taxed at parents rate). They pay the 5% on their capital gains because they will earn under the $30,000 (check the exact amount with the IRS). I must make sure they do not exceed into the 15% tax bracket. Since they are young and are not out of college yet, I can keep their income levels down. Once they graduate and have a full time job, they will exceed the 15% limits and will be taxed at the 15% vs the 5% rate.

These wonderful tax rates are brought to you by Pres. Bush and the Republicans but are due to fluxuate a bit and then sunset (end) in a few years. Also, tax increases are sure to be imposed if the Republicans loose in future elections with higher tax rates probable. We still cannot be sure and future tax rates are a mystery.

Think things through. I would also suggest that you use this money to continue to build a nest egg. I have used UGMA money to fund my kids ROTH IRA each year. This is a gift from the government to young people. This allows your money to grow tax free the rest of your life and if you pass it on to your children will grow tax free for their lives as well. You can contribute $4,000 each year (but must earn this amount).

I would also suggest that you make it a priority to learn about investing.
See website www.smartaboutmoney.org and look under resources. Lots to learn from.
I also am a fan of Bob Brinker. He has a proven track record and teaches people to manage their own money. Listen each Saturday and Sunday on the radio. www.bobbrinker.com Check the website for a station and time to listen. Educate yourself.

Stay away from brokers or financial planners. They will skim your money from your earnings!!! Stick with good no load (no fees) companies like Fidelity or Vangaurd.

Don't blow your money on consumable items. Keep this for things that appreciate in value like a future home or funding retirement.

Hope this helps.
sue