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Can You use UTMA Funds for a Roth IRA Contribution?

written by: •edited by: Rebecca Scudder•updated: 3/28/2011

For children who have begun working and have steady income, using UTMA funds for Roth IRA contribution may allow them to begin saving at a very young age for retirement. Roth IRA funds may have more flexibility than UTMA funds for college, home buying and other investments.

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    Understanding UTMA Rules and Roth IRAs

    broken piggy bank When an adult makes a gift to a minor under the Uniform Transfers to Minors Act (or Uninform Gifts to Minors Act in South Carolina and Vermont) these funds are considered irrevocable. Once deposited, the funds belong to the minor and the custodian is responsible for ensuring that these funds are used only for the benefit of the minor. This means that once the child has reached the age of majority (21 in some states and 18 in others), they are then able to liquidate the UTMA accounts and use the proceeds as they deem appropriate. The custodian of the account does not need to approve the liquidation nor can they state how the funds are to be used.

    Roth IRA contributions may only be made in the event that there is income. This means that under the labor laws that are in place in most of the United States, children cannot work unless it is for a family business and earn money. These work restrictions mean that children under the legal working age are not eligible for a Roth IRA account.

    However, for children who have reached working age and are working, in order to transfer UTMA funds for Roth IRA contribution account for the minor, very specific steps may be required. It is important that a financial advisor or tax accountant be consulted to avoid these funds being excluded by the Internal Revenue Service.

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    Transfer UTMA to Roth - Required Steps

    tax deadline For those who are considering a transfer UTMA funds for Roth IRA contribution for a working minor, the transfer may not be as simple as you think. For this type of a transfer to occur, it is important that a financial advisor or tax accountant be contacted first. While most companies will have specific rules that govern this type of transfer, here are the basic steps to transferring funds from an UTMA to a Roth IRA.

    Liquidation request - because the UTMA accounts do not have limits on contributions, it is unlikely that 100% of the funds in an UTMA will be transferred to a Roth IRA. If the child is over the age of majority, they may handle the liquidation request on their own. In the event that the child is still under the age of majority, the custodian must submit a liquidation request to the company where the UTMA account is held. Many companies will require the custodian to have the request signature guaranteed and some may require that the custodian state the funds are being used for the benefit of the minor;

    Set up Roth IRA account - many investment firms will not allow those under the age of 18 to set up their own investment accounts. Not all mutual fund firms, banks and brokerages allow a custodial Roth IRA. It may take some investigating to find a company that does. It is important to note that the UTMA account and the Roth IRA must be set up using the Social Security number of the minor.

    Transfer liquidated assets to Roth IRA - once the Roth IRA account is set up for the minor, a check may be issued directly to the account from the liquidated UTMA account or the check may be cashed and a new check sent to fund the Roth IRA account. It is important to note that the IRA funding deadlines will need to be met in order to allow the minor to claim the contribution to offset earnings.

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    Roth IRA Versus UTMA Benefits

    While on the surface it may appear there are not many benefits to funding a Roth IRA through liquidation of an UTMA account, there are some tax advantages that may be taken advantage of. For instance, when the child reaches majority age and wishes to purchase a home, the funds in the IRA may be withdrawn without penalty and may be replaced later. Some banks will also allow the IRA to be used for collateral on loans.

    Before instituting this type of transfer, it is crucial that a tax accountant or financial advisor be contacted to ensure that all requirements are met.

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    Resources

    Sources:

    1. Tax Guide for Investors Fairmark.com Thomas, Kaye, A. UGMA & UTMA Custodial Accounts for Minors http://www.fairmark.com/custacct/
    2. Fi Guide Jefferies, MBA, Lon 13, Dec 2008 Uniform Transfers to Minors Act (UTMA) http://www.figuide.com/uniform-transfer-to-minors-act-utma.html
    3. Internal Revenue Service, Roth IRAs http://www.irs.gov/publications/p590/ch02.html#en_US_2010_publink1000230975
    4. Author's Experience

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