Children and large cash gifts

[MrsO]

I have found and read several threads about savings accounts for children, but I have a question that's a bit more specific. What is the best way to handle relatives gifting large amounts of money to young children?

I just learned that my grandparents plan to gift my soon-to-be-born child with $14k. It's likely that other substantial cash gifts will be given by other relatives in the future. What is the best way to set this money aside, and is there a way to prevent the child from gaining access to the money until sometime in their 20s or 30s?

Since my husband and I have already planned for college expenses, and since the money is intended for the child and not us, I hesitate to put it into a 529 plan. Still, I'm open to hearing why that might be the best course of action. My initial thought was to simply open a joint brokerage account with the child and invest the money in index funds, but I'm reluctant to give a young person access to a large sum of money. Plus, I'm trying to raise a Boglehead, not a spoiled brat with a sense of entitlement.

I guess my question is part factual, part philosophical: what kinds of accounts should I consider, and what is the best way (and time) let my offspring know that this money exists?

[archbish99]

UTMA would be an account which is actually held in custody for the minor. There is a custodian until the child turns 18 (or in a couple states, 21), at which point it is completely theirs. However, many people are uncomfortable with allowing the money to be suddenly fully in the child's control.

The advantage of a traditional 529 is that the account belongs to the parent. The parent can withhold or delay the money if need be, since it's their money. If we're talking about a truly substantial amount of money, you could also consider a trust in the child's name, with the parent (or someone else) as the trustee and the trust document spelling out when the money should be released -- age, conditions, a certain amount annually, or even up to the discretion of the trustee.

However, the limitation on both these is the designation of the gift. If your grandparents give the money to the child, UTMA is really the only legal choice. (You can do a UTMA 529, which is a 529 owned by a child, for some of the tax advantages but it's less useful for them.) If your grandparents give the money to you, with the understanding it's for the child, you can decide what sort of account to put it in. If that's a touchy issue for them, they might feel more comfortable with a trust, since it would be irrevocably the child's.

[archbish99]

Oh, though as to informing the child.... I have heard parents say that if they didn't think their adult child was really ready for the UTMA, they'd just omit to tell them. That would highly depend on the child's perceptiveness, though, since they'll have to include it on their tax return. My college fund was in one, so I knew it was there from about the time Dad started handing me tax returns to sign, though he could have signed for me (and probably should have) until age 18.

[celia]

These are all good options. But suppose, what if, you never know what will happen . . . an entire estate was left to your child.
Also, suppose . . . after receiving it, another child was born. Then what happens? (These things happen.)

I suggest that you talk to your grandparents and find out their intent so that you could honor their wishes, while explaining your concerns. Don't make it sound as if you expect more from them, since someone else could gift your children too.

What a nice problem to have!

[archbish99]

These are all good options. But suppose, what if, you never know what will happen . . . an entire estate was left to your child.
Also, suppose . . . after receiving it, another child was born. Then what happens? (These things happen.)

That's true -- a trust with its beneficiaries as "[MrsO]'s children, either natural or adopted" would probably be the most general. If they intend to leave a substantial amount of money to your child[ren], you might jointly visit a lawyer and draw up a trust everyone's comfortable with.

[sscritic]

What is the best way to handle relatives gifting large amounts of money to young children?
...
I'm reluctant to give a young person access to a large sum of money. Plus, I'm trying to raise a Boglehead, not a spoiled brat with a sense of entitlement.

Well, there you have it. You are raising the child. If you raise a boglehead, who's fault is that? If you raise a spoiled brat, who's fault is that? If you raise a child who can't defer gratification at 18 let alone at 6, who's fault is that?

Answer: It may have nothing to do with you. Try Stanford's marshmallow experiment now! If your child fails, you are looking forward to a life of misery, and you might as well give up now. Well, maybe you could wait until the child is four.
http://en.wikipedia.org/wiki/Stanford_m ... experiment

P.S. I put the money in a UGMA. My children did not fail me, or perhaps I did not fail them. I never hid it from them; they knew about the money as teenagers (13 rather than 18). I gave them control at 18 following the law of my state and the terms of the UGMA.

[sscritic]

$14,000 isn't that large an amount of money. If you were to die, your child would most likely get more than that a year from Social Security to age 18 or even slightly beyond (well, only after birth, not before). The child gets 3/4 of your Primary Insurance Amount. If your PIA is $2000, your child would get $1500 a month or $18,000 every year. That's $324,000 by age 18 (but only if one of you dies when the child is a newborn).

P.S. Do you already have $400,000 in the 529? If your child has money for college or whatever at 18, why would you put money into a 529? You make it sound like you have college covered, but I would guess you don't yet.

P.P.S. If you thought you might buy your child a car, you won't have to use your own money given the gift. You can increase your own retirement savings and let your child buy a car with the gift money. Don't you love that money is fungible?

[TRC]

My wife's parents did the same for our 2 young children. They specifially requested it be set aside for college money. So we put it in Vanguard and my wife is the account owner (not me).

Is your college account fully funded? If not, the easy answer is to put the money there.

[sscritic]

I would seek clarity on the issue of ownership very early on, perhaps even before the gift arrives:

Is the gift to the child so that the money is the child's money or is the gift to you to use for the child so that the money is yours?

I always like to know who owns stuff, particularly money. It makes a difference on account titles and tax returns among many other things. Knowing who owns things allows you to use the proper social security number, fill out financial forms correctly, etc.

If you want to put the money in a 529, do you use your 529 or a UTMA 529 owned by your child? The answer depends on whose money it is.

[Grt2bOutdoors]

Either open a UTMA - in which case, the child will gain access to at age 18 or longer with the intention of using it to pay for college (tell child the money is to be used for college as they are getting older so the expectation is built into their mindset before 18); or:

Open a separate taxable account joint in you and hubby's name - add only monies that are child specific to this account, when the time is appropriate transfer ownership to child. This requires you to have self-control not to touch it and the will to make the tranfer at said time, even if the value morphs into something huge.
There are some parents who can do this and some parents who will spend any money they can get their hands on.

If you forsee $14K gifts being made annually until age 10 or longer, then a separate trust for the child may make more sense or some use instruments like deferred variable annuities to create a future retirement fund for the child but that will involve higher fees than you may want to absorb and deferred gratification.

[Dianne]

You may not be in a position to tell your grandparents this, but they are making a mistake if they intend to give this money outright to your child.

Ideally, they would contact the attorney who drafted their wills, and discuss the different options they have for giving this money. The only way to keep the child from getting the money until he's in his thirties is by using a trust, and the money should go straight from your grandparents to the trust, without passing through your hands or your child's. Once you cash a check made out to your child, that money belongs to the child, and the child will be entitled to spend it all at age 18. A trust gives your grandparents many options, and they can pick and choose the terms that are best for the whole family, taking into account everyone's tax situation, financial acumen, need for creditor protection, etc. It is possible that they have already done this, and just haven't shared the details with you yet.

If your grandparents don't want to spend the money to create a trust, it is possible for you to create a stand-alone trust for your child and have your grandparents write the check to the trust. The attorney who drafted your wills should know exactly what kind of trust you would need for this purpose.

[MN Finance]

Without knowing the family dynamics, I would put the money into a 529. If you have money set aside for college, then you can always shift that mental accounting. The grandparents will be able to see and feel that single account knowing it's what they contributed. If for some reason college is already paid for, like you work at a college and they get an automatic full ride, then you can invest in a unique taxable account. I value trusts, but unless there's a family dynamic you didn't mention, most people invest in a taxable account in the parents name and just *know* that's the kids money. You can deal with estate planning in entirety for all your wealth, not just this. Further, I would use the money in the taxable account to fully fund a Roth IRA when the child has earned income. That creates a barrier to use by the child and is good long term planning. It may seem like a long way off but it goes fast. A couple of my kids had modeling jobs so we opened Roths for them as 1 and 2 yr olds (not a lot of money mind you). And it doesn't take long for 10-12 yr olds to start cutting lawns or having a paper route.

[sscritic]

You may not be in a position to tell your grandparents this, but they are making a mistake if they intend to give this money outright to your child.

In my family we always worried about our children getting pregnant at 18, not about our children getting money at 18. I was much more worried about sex, drugs, and rock'n'roll than money I had taught my children was for their college expenses.

I guess you have to set your own priorities about where you think you will fail your child and where your child will fail you. Work on those potential failures, whatever they may be.

P.S. You could always lock your child up in an ivory covered tower, the Rapunzel kind, not the ivy league kind, to keep them from temptations of all kinds until they are 35. I know my son-in-law would like to do that with his daughters.

[reggiesimpson]

I had the same "problem" years ago. My parents ended up giving me and my wife the money and we in turn opened up 529s for our children. Worked out just fine. One child ended up at a state school and acquired a scholarship while the other went to a private school with a scholarship. There is a sizable fund left over in the 529s that will be shifted to our grandchildren when they come. My children are fully aware of this.

[Dianne]

You may not be in a position to tell your grandparents this, but they are making a mistake if they intend to give this money outright to your child.

In my family we always worried about our children getting pregnant at 18, not about our children getting money at 18. I was much more worried about sex, drugs, and rock'n'roll than money I had taught my children was for their college expenses.

I guess you have to set your own priorities about where you think you will fail your child and where your child will fail you. Work on those potential failures, whatever they may be.

P.S. You could always lock your child up in an ivory covered tower, the Rapunzel kind, not the ivy league kind, to keep them from temptations of all kinds until they are 35. I know my son-in-law would like to do that with his daughters.

It's not just about protecting the child from his or her own mistakes (although that is what the OP asked about). My parents' wills, at my request, leave any inheritance I might receive in a trust that will last until I die. That's not because I don't trust myself with money -- the wills appoint me as trustee, so I will control the investments and distributions. But wholly aside from the issue of control, third-party trusts offer a variety of tax and legal advantages, if they are set up before the money becomes yours. These grandparents are in a unique position to offer their grandchild those advantages. If they are passing up that opportunity, I hope they are at least making an informed decision.

[sscritic]

But wholly aside from the issue of control, third-party trusts offer a variety of tax and legal advantages, if they are set up before the money becomes yours.

Could you elaborate? I believe from reading your previous posts that you work in this area. I assume that paying taxes at trust tax rates is not one of the advantages.

P.S. My father's will (at my request) leaves my share outright to my children. I have no need for the income, and my children are not four. He has plenty of GST space, and the direct transfer gets it out of my estate, although presumably the trust would as well.

P.P.S. The persons involved are great grandparents; the gift from the OP's grandparents to the OP's child is not from a grandparent. This is a two generation skip, not a one generation skip. Unless you meant advantages to the OP and not advantages to the OP's child.

[Jay69]

In my family we always worried about our children getting pregnant at 18, not about our children getting money at 18. I was much more worried about sex, drugs, and rock'n'roll than money I had taught my children was for their college expenses.

May I add a fast street car and a boy/girl friend with a motorcycle to that list!

[ResNullius]

I have spoken to my son and his wife, who now have a 14-month old son, about gifting from myself and my wife. I told them that we did not intend to give money to their children, but to gift whatever we see fit to my son and his wife to use as they see fit for themselves and their kids. With a current $10M joint estate tax exemption, we'll never have to worry about going over the limit (or even close to it). Whatever we have left at our death will then go to my son, assuming he is alive, alternatively to his children in a trust to be overseen my their mother. My son and his wife will save and invest as they see fit for their kids educations, and they can use whatever we gift for that purpose of any other purpose. If we're alive when the grandkids get to college, we might decide to pay some or all of it for them, but I won't know what we can actually afford until the time comes. Prior to that, it's our intention to give my son and his wife a significant downpayment when they buy a house. If we have more to give, then we will give it on the condition that it be used to pay down principal on the mortgage. If we're talking about much smaller amounts, then we will gift them as appropriate at Christmas and birthdays. Bottom line: We don't want to provide money directly to the grandkids, because that's my son and his wife's job to do what they think best for their kids. This is our current thinking, but of course our thinking could change over time, but who knows.

[Dianne]

But wholly aside from the issue of control, third-party trusts offer a variety of tax and legal advantages, if they are set up before the money becomes yours.

Could you elaborate? I believe from reading your previous posts that you work in this area. I assume that paying taxes at trust tax rates is not one of the advantages.

P.S. My father's will (at my request) leaves my share outright to my children. I have no need for the income, and my children are not four. He has plenty of GST space, and the direct transfer gets it out of my estate, although presumably the trust would as well.

P.P.S. The persons involved are great grandparents; the gift from the OP's grandparents to the OP's child is not from a grandparent. This is a two generation skip, not a one generation skip. Unless you meant advantages to the OP and not advantages to the OP's child.

If the trust is drafted correctly, set up correctly, and maintained correctly, the beneficiary (OP's child) may obtain some or all of these benefits:

1. The assets in the trust will not be included in the beneficiary's estate for estate, gift, or GST tax purposes. Our newly-permanent $5.25 million exemption may seem like a lot, but Congress could reduce the exemption in the future. Or we may "grow into" this exemption, if general wealth increases faster than the inflation rate that the $5.25 million is indexed to. Or, possibly, a new tax may be enacted that existing trusts will be grandfathered from having to pay. Some wealthy families still have old trusts that are grandfathered from the generation-skipping transfer tax, and they are careful to preserve those trusts. It's hard to know what the future holds, but families that have set up trusts like these in the past have not fared badly.

2. The assets in the trust will be unavailable to some of the beneficiary's creditors, including judgment creditors. If the beneficiary grows up to become a doctor and enters a high-risk field like obstetrics, this could be valuable. Even a person in a low-risk career is vulnerable to being sued over a car accident, or as an owner of property on which an injury occurs. You don't often hear about the average person losing money this way, because the average person typically doesn't own much outside of retirement plans, which are exempt from creditors under federal law. But the more responsible and Bogleheadish the child is, the more likely he or she is to accumulate wealth that is vulnerable to this risk. (Caveat: In some states, the beneficiary will have to decline to serve as trustee in order to get this creditor protection. However, setting up the trust now at least preserves the beneficiary's ability to make that decision later on.)

3. The trust could be drafted to include special needs provisions, so that if the beneficiary is born with or later acquires a disability, the trust assets will not prevent the beneficiary from qualifying for government benefits or special education programs. Even if the trust does not contain special needs provisions, in some states a court can reform the trust to add those provisions. But a court cannot reform a trust that doesn't exist.

4. Divorce planning. A person who is responsible with money can still make a bad decision about whom to marry, or can just be tricked. In some states, money in a third-party trust is more difficult for a divorce court to reach.

These are the four major benefits in my state. Other states may have more or different benefits.

I am assuming that the OP's grandparents plan to give the great-grandchild more than just a one-time $14,000 gift. The timing of the gift, combined with the dollar amount chosen and the OP's specific questions, suggest to me that the donors may be embarking on a long-term gifting plan to reduce the size of their estate. If the donors intend to make yearly gifts of $14,000, the ultimate total amount transferred would justify the use of a trust from the beginning. If the donors aren't going to give more than one $14,000 gift, then most of my points are not very relevant. However, they may still apply to your (sscritic's) father's estate plan.

[Grt2bOutdoors]

@Dianne: Can you opine on average how much it would cost to establish such a trust that would receive yearly gifts of $14K?

[HomerJ]

What is the best way to handle relatives gifting large amounts of money to young children?
...
I'm reluctant to give a young person access to a large sum of money. Plus, I'm trying to raise a Boglehead, not a spoiled brat with a sense of entitlement.

Well, there you have it. You are raising the child. If you raise a boglehead, who's fault is that? If you raise a spoiled brat, who's fault is that? If you raise a child who can't defer gratification at 18 let alone at 6, who's fault is that?

Answer: It may have nothing to do with you. Try Stanford's marshmallow experiment now! If your child fails, you are looking forward to a life of misery, and you might as well give up now. Well, maybe you could wait until the child is four.
http://en.wikipedia.org/wiki/Stanford_m ... experiment

P.S. I put the money in a UGMA. My children did not fail me, or perhaps I did not fail them. I never hid it from them; they knew about the money as teenagers (13 rather than 18). I gave them control at 18 following the law of my state and the terms of the UGMA.

I have 3 children. Two are excellent with money. One is terrible. Who's fault is that? All three have the same parents. Don't be so smug about your parenting expertise sscritic.

As another data point, I got $5,000 from my Grandma when I was 18... I was on a scholarship, so I didn't need it for college... I blew nearly every cent on beer and pizza and girls by the time I was 20 (The rest I wasted!). I guess I can blame my parents for not raising me right.

[Grt2bOutdoors]

I have 3 children. Two are excellent with money. One is terrible. Who's fault is that? All three have the same parents. Don't be so smug about your parenting expertise sscritic.

As another data point, I got $5,000 from my Grandma when I was 18... I was on a scholarship, so I didn't need it for college... I blew nearly every cent on beer and pizza and girls by the time I was 20 (The rest I wasted!). I guess I can blame my parents for not raising me right.

One can always hope the 3rd child will right the ship.
$5K on pizza! Oh! you were feeding the track team. That explains it!

[HomerJ]

Bottom line: We don't want to provide money directly to the grandkids, because that's my son and his wife's job to do what they think best for their kids.

I think this is an excellent point...

I've been working on my one child who doesn't appreciate money.. We've given her a strict monthly budget at college, and we're dishing out tough love in spades when she runs out of cash on the 24th of the month (because she went to Panera's for lunch too many times). Making her suffer now will hopefully pay off in the long run... (or it may make her spend wildly when she gets her first job, overcompensating for her "poor" years)

I'm not sure yet if our plan is going to work, but I wouldn't appreciate Grand-dad stepping in and throwing $10,000 at her, thinking he's "helping". My plan may not work, but I know for sure that giving her a ton of money right now would ruin her for years.

[sscritic]

I have 3 children. Two are excellent with money. One is terrible. Who's fault is that? All three have the same parents. Don't be so smug about your parenting expertise sscritic.

I guess you skipped over the part about the importance of marshmallows.

It may have nothing to do with you.

[Dianne]

As another data point, I got $5,000 from my Grandma when I was 18... I was on a scholarship, so I didn't need it for college... I blew nearly every cent on beer and pizza and girls by the time I was 20 (The rest I wasted!). I guess I can blame my parents for not raising me right.

My estate tax professor once said, "If you give liquid assets to a 21-year-old, he'll drink them."

@Dianne: Can you opine on average how much it would cost to establish such a trust that would receive yearly gifts of $14K?

Well, it's never wise to try to estimate the fees of other attorneys, but, here goes...

Preparing and setting up such a trust might be doable in as little as 5 billable hours, if the attorney is already familiar with the client's situation and existing estate plan. (In other words, the lawyer who drafted your will last year may be able to do this fairly expeditiously.) If the client and attorney are starting from scratch, it might take more like 10 or even 15 hours, depending on how particular the client is about specific provisions, and how much the client agonizes over various decisions.

So if your lawyer charges $400 an hour, well, I'll let everyone do the math. The best estimate will come from the lawyer who will be doing the work.

It's not cost-effective to do this for a single $14,000 gift. But in my experience, most people don't have a good reason to make a single $14,000 gift. If you can't afford to give away more than that, then you probably shouldn't give anything at all. And if your estate is large enough that you need the estate tax benefits of making gifts, then you need to make a decent number of $14,000 gifts to make a meaningful dent in the tax bill.

[MrsO]

Thanks for your thoughts so far. I hear what many people are saying about a trust, but I'm not sure if that would be a practical idea because 1) I can't imagine that this will be an annual gift, and 2) my grandparents might not be the only generous relatives gifting money. First world problem, I know!

Perhaps some more details about our particular situation would help:

- We have not set up a 529 plan. For college, we have ~$300k currently tied up in real estate and mentally earmarked for college expenses. We plan to sell the real estate this year, invest the proceeds, and we feel confident that it will be enough to cover college expenses in 18+ years. I'm somewhat wary of 529 plans. Are they really that great? I don't like the idea of locking all that money up and only being able to use it for educational costs.

- The money from my grandparents will likely come in the form of a check made out to the baby. It will likely just show up in the mail one day as a wonderful surprise. I say this because my grandparents have done this at random twice in the past -- sent all of their grandchildren (and great grandchildren?) equal checks out of nowhere. I don't feel right giving them instructions on the best way to give the money, since I'm not sure I'm even supposed to know that it's coming.

- Our retirement accounts are well-funded and other savings goals are on track

I like the idea of setting up a joint brokerage account and letting my child know that he'll be responsible for certain future expenses, for example a car. That way he'll have ownership of the money but will hopefully have some motivation to keep it safe. I love the concept of the marshmallow test and will be sure to administer it at an early age to get a sense of the mindset I'm working with!

[c00kie]

I have spoken to my son and his wife, who now have a 14-month old son, about gifting from myself and my wife. I told them that we did not intend to give money to their children, but to gift whatever we see fit to my son and his wife to use as they see fit for themselves and their kids. ..... Bottom line: We don't want to provide money directly to the grandkids, because that's my son and his wife's job to do what they think best for their kids.

+1

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