Investing for Minors: Custodial Accounts Explained
Your first investment account — with parent supervision
Why Invest Young?
The single most powerful force in wealth building is time.
Here's what starting early looks like:
| Start Age | Monthly Investment | Years Investing | Total Contributed | Value at 65 (7% return) |
|---|---|---|---|---|
| 15 | $100 | 50 years | $60,000 | $620,000 |
| 25 | $100 | 40 years | $48,000 | $262,000 |
| 35 | $100 | 30 years | $36,000 | $117,000 |
Starting at 15 instead of 25 — with the exact same monthly contribution — results in more than double the final amount.
This is compound interest. Time is the ultimate asset.
The Problem: Minors Can't Own Investment Accounts
Legally, people under 18 can't enter contracts — which includes brokerage account agreements.
The solution: Custodial accounts, where a parent or guardian legally owns the account on behalf of the minor until they reach adulthood.
UGMA vs. UTMA Accounts
The two main types of custodial investment accounts:
| Feature | UGMA | UTMA |
|---|---|---|
| Full Name | Uniform Gifts to Minors Act | Uniform Transfers to Minors Act |
| Assets Allowed | Securities (stocks, bonds, mutual funds), cash | Securities + real estate, patents, art, etc. |
| Transfer Age | 18 (in most states) | 18-25 (varies by state) |
| Availability | All states | Most states |
For most families: Either works. UTMA offers slightly more flexibility, but for typical stock/fund investments, they're functionally identical.
How Custodial Accounts Work
The Setup
- Custodian (parent/guardian) opens the account
- Beneficiary (minor) is named on the account
- Anyone can contribute (parents, grandparents, etc.)
- Custodian manages investments and makes decisions
- At age of majority (usually 18-21), the minor gains full control
Key Rules
| Rule | What It Means |
|---|---|
| Irrevocable gifts | Once money is in, it belongs to the child — can't be taken back |
| Custodian control | Parent manages until child reaches majority |
| Child's tax ID | Account uses child's Social Security number |
| Must benefit the child | Custodian can't use the money for themselves |
The Kiddie Tax: What Parents Need to Know
When minors earn investment income (dividends, capital gains), special tax rules apply:
| Child's Unearned Income | Tax Rate |
|---|---|
| First $1,300 | Tax-free |
| Next $1,300 | Child's tax rate (usually 10%) |
| Over $2,600 | Parent's marginal tax rate |
What this means: For small accounts, taxes are minimal. For large accounts, the "kiddie tax" can bite.
Ages affected: Under 19, or under 24 if a full-time student
College Financial Aid Impact
This is important: Custodial accounts (UGMA/UTMA) are counted as student assets on the FAFSA.
| Asset Owner | FAFSA Weight |
|---|---|
| Parent assets | ~5.6% counted against aid |
| Student assets (custodial) | 20% counted against aid |
Translation: $10,000 in a custodial account reduces financial aid eligibility by ~$2,000. The same $10,000 in a parent's account reduces aid by only ~$560.
For families expecting significant financial aid: Consider 529 plans or Roth IRAs instead — they have more favorable aid treatment.
What to Invest In
For minors with long time horizons, simple is better:
| Investment Type | Risk | Good For |
|---|---|---|
| Total stock market index fund | Higher | Long-term growth (10+ years) |
| S&P 500 index fund | Higher | Long-term growth, large US companies |
| Target-date fund | Moderate | Automatic diversification |
| Bond index fund | Lower | Stability, shorter time horizons |
ISP recommendation: For teens with 5+ years until they need the money, a simple total stock market index fund (like VTI or FSKAX) is hard to beat.
Why Index Funds?
| Active Funds | Index Funds |
|---|---|
| Manager picks stocks | Tracks an entire market |
| Higher fees (1-2%) | Very low fees (0.03-0.20%) |
| Most underperform the index | By definition, matches the index |
| Requires research | Set it and forget it |
The data: Over 15-year periods, ~90% of actively managed funds underperform their index. Keep it simple.
What ISP Teaches
The First Investment Challenge
ISP students work through:
- Learn — Understand what stocks, bonds, and index funds are
- Research — Compare custodial account options at 3+ brokerages
- Discuss — Talk with parents about opening an account
- Open — Open a real custodial account (with parent)
- Invest — Make a first investment (even $50 is meaningful)
- Track — Set up a quarterly check-in to review performance
- Teach — Create a "You Teach" video explaining compound interest
Completing the Challenge Earns:
- 📈 First Investment Badge on your MyPath profile
- OVR boost in the Financial Skill Tree
Opening a Custodial Account
Popular Options
Most major brokerages offer custodial accounts with no minimums:
| Brokerage | Account Minimum | Commission | Notes |
|---|---|---|---|
| Fidelity | $0 | $0 | Youth account option with learning features |
| Schwab | $0 | $0 | Robust research tools |
| Vanguard | $0 | $0 | Pioneer of index investing |
| E*TRADE | $0 | $0 | Good mobile app |
What You'll Need
- Parent/guardian information (SSN, address, employment)
- Minor's information (SSN, birthdate)
- Bank account for funding
- 10-15 minutes to complete application
Custodial Account vs. Other Options
| Account Type | Control | Tax Treatment | Financial Aid | Best For |
|---|---|---|---|---|
| Custodial (UGMA/UTMA) | Child at majority | Kiddie tax applies | 20% weight | Teaching investing |
| 529 Plan | Parent | Tax-free for education | ~5.6% weight | College savings |
| Custodial Roth IRA | Child at majority | Tax-free growth | Not counted | Long-term wealth (requires earned income) |
| Parent's account | Parent | Parent's taxes | ~5.6% weight | Complete control |
The ISP view: For teens with earned income, a Custodial Roth IRA beats UGMA/UTMA for long-term wealth building. See Roth IRA for Teens →.
FAQ
Q: Can my child lose the money I put in?
A: Yes — investments can go down. But historically, diversified stock investments have always recovered over long time periods. For money needed in less than 5 years, consider safer options.
Q: What happens when my child turns 18?
A: They gain full legal control of the account. They can keep it invested, cash it out, or do anything they want. This is why teaching financial literacy early matters.
Q: Can I take the money back if I need it?
A: Legally, no. Once gifted to a custodial account, it belongs to the child. Using it for anything other than the child's benefit is technically illegal (though rarely enforced for small amounts).
Q: How much should I invest?
A: Any amount that you can commit to regularly is valuable. $25/month is better than $100 once and then nothing.
Q: Should I let my child pick stocks?
A: For educational purposes, sure — with a small amount. But for core investments, index funds are the evidence-based choice.
Related Topics
- Roth IRA for Teens → — Better option for working teens
- Saving for College → — 529 plans and financial aid
- Real Estate Basics → — Long-term wealth building
- Banking Basics → — Start here before investing
- Personal Finance Overview →