Is this proper use of UTMA -> Coverdell to reduce taxes?

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Topic Author
deemma
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Joined: Wed Jan 15, 2014 4:42 pm

Is this proper use of UTMA -> Coverdell to reduce taxes?

Post by deemma » Wed Jan 15, 2014 5:14 pm

Long time lurker, learned a lot, thank you! Does this make sense/save me some taxes/legal:

I have 300 shares of stock that have a cost basis of $1,500 with a current unrealized short term capital gain of $4,5000. Total value = $6000. Because they are ESPP shares, it would take another 1.5 years for them to become long term gains.

My short term capital gains tax rate is 39.6% federal and 12% state. 51.6% tax on 4,500 gain is a $2,322 tax bill.

Is it proper to reduce the tax by doing the following:
  • I have a child that goes to a private school. She has no income at all today.
  • Setup a UTMA account for my child.
  • Setup a Coverdell ESA account for my child. Note: I can not directly contribute to Coverdell because I am over the income limits
  • Transfer all shares of the stock to the UTMA account.
  • Sell 133 shares of stock in the UTMA. This would yield my daughter $2667 total, of which $667 is cost basis and $2000 is short term capital gain. My daughter would pay only 15% tax on $1000 since the first $1000 is tax exempt. Total tax bill so far: $150.
  • Transfer the remaining $3,333 of stock to the Coverdell ESA. $2,000 counted towards 2013 contribution, and $1,333 counted towards 2014 contribution.
  • Sell all $3,333 worth of stock in the Coverdell
  • Use the proceeds to pay for private school tuition, making the distribution out of the Coverdell fully tax free.
Enjoy the saving of $2,172 in taxes.

Did I miss anything or violate any tax laws?

HouseStark
Posts: 324
Joined: Mon Oct 15, 2012 2:31 pm
Location: Minneapolis, MN

Re: Is this proper use of UTMA -> Coverdell to reduce taxes?

Post by HouseStark » Thu Jan 16, 2014 10:23 am

Contributions to a Coverdell must be made in cash only.

sscritic
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Joined: Thu Sep 06, 2007 8:36 am

Re: Is this proper use of UTMA -> Coverdell to reduce taxes?

Post by sscritic » Thu Jan 16, 2014 10:29 am

Who owns a Coverdell? The assets in a UTMA belong to your child (note the word transfer, which used to be gift). I believe you are the owner of the Coverdell, so it would be inappropriate for you to take money from your child and put it into your name.

HouseStark
Posts: 324
Joined: Mon Oct 15, 2012 2:31 pm
Location: Minneapolis, MN

Re: Is this proper use of UTMA -> Coverdell to reduce taxes?

Post by HouseStark » Thu Jan 16, 2014 10:31 am

Beyond that, are there limits on the transferability of ESPP shares?

Maybe you should just take a longer term approach and transfer shares, when long-term qualified, to your daughter and have her take the gains spread over years to take advantage of her $1000 exemption.

sscritic
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Re: Is this proper use of UTMA -> Coverdell to reduce taxes?

Post by sscritic » Thu Jan 16, 2014 10:41 am

HouseStark wrote: Maybe you should just take a longer term approach and transfer shares, when long-term qualified, to your daughter and have her take the gains spread over years to take advantage of her $1000 exemption.
It's a standard deduction, not an exemption, but who really cares except for tax nerds and wanna-be tax nerds.
You can take one exemption for yourself unless you can be claimed as a dependent by another taxpayer.

Topic Author
deemma
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Joined: Wed Jan 15, 2014 4:42 pm

Re: Is this proper use of UTMA -> Coverdell to reduce taxes?

Post by deemma » Thu Jan 16, 2014 12:08 pm

Thanks for the replies.

sscitic: If I were to transfer from UTMA to Coverdell, my daughter would own the Coverdell. That's ok in my scenario because the money would be immeidately used to fund private school tuition.

HouseStark: Cash only contributions huh? That's makes this far less effective. There does not seem to be relevant limits on transferability of ESPP shares. I've already transfered a small amount of shares and it occured all within 12 hours without a hitch. The trouble with longer term approach:

1. I have a large chunk ESPP shares to transfer, it would take a very long time to use them up in $1000 - $2000 chunks.
2. My daughter probably has only 1.5 more years of private school. It will be more difficult to spend the money once she moves to public school.

Another general question comes to mind. Let's say I just put money in the coverdell today. Is it acceptable to withdraw money today to cover tuition payments made in late 2013?

sscritic
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Re: Is this proper use of UTMA -> Coverdell to reduce taxes?

Post by sscritic » Thu Jan 16, 2014 1:02 pm

deemma wrote: sscitic: If I were to transfer from UTMA to Coverdell, my daughter would own the Coverdell. That's ok in my scenario because the money would be immeidately used to fund private school tuition.
That's not the law. The law says she is the beneficiary, but you are the owner. As owner, you have the right to change the beneficiary to someone other than your daughter.

If you open a 529 with your daughter as beneficiary and you as the owner, she is not the owner. Now if you open a UTMA 529 with your daughter as both owner and beneficiary, then she is the owner. I don't know if there is a UTMA Coverdell.

HouseStark
Posts: 324
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Location: Minneapolis, MN

Re: Is this proper use of UTMA -> Coverdell to reduce taxes?

Post by HouseStark » Thu Jan 16, 2014 2:02 pm

deemma wrote: Another general question comes to mind. Let's say I just put money in the coverdell today. Is it acceptable to withdraw money today to cover tuition payments made in late 2013?
I don't know what would be the point of that. There's no deduction for contributions and taking the money out shortly after is not going to provide any period to benefit from tax-free gains. What would that approach achieve?

Maybe you already have your children's college funding planned for, but starting early now on a 529 plan would provide more potential benefit because of the time available to accumulate tax-free earnings. That would have more advantages than any near-term benefits from a Coverdell.

Topic Author
deemma
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Joined: Wed Jan 15, 2014 4:42 pm

Re: Is this proper use of UTMA -> Coverdell to reduce taxes?

Post by deemma » Thu Jan 16, 2014 2:45 pm

sscritic wrote: That's not the law. The law says she is the beneficiary, but you are the owner. As owner, you have the right to change the beneficiary to someone other than your daughter.

If you open a 529 with your daughter as beneficiary and you as the owner, she is not the owner. Now if you open a UTMA 529 with your daughter as both owner and beneficiary, then she is the owner. I don't know if there is a UTMA Coverdell.
I've read that brokerage firms setup a coverdell where the owner and beneficiary are the same when it is funded through a UTMA.
HouseStark wrote: I don't know what would be the point of that. There's no deduction for contributions and taking the money out shortly after is not going to provide any period to benefit from tax-free gains. What would that approach achieve?
You are correct. It's more a general question. Can Coverdell money be used for expenses paid for in the past. If the answer is year, an important question becomes how far in the past can you go.

You guessed correctly that I already have 529 funded.

sscritic
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Joined: Thu Sep 06, 2007 8:36 am

Re: Is this proper use of UTMA -> Coverdell to reduce taxes?

Post by sscritic » Thu Jan 16, 2014 2:59 pm

deemma wrote:
sscritic wrote: That's not the law. The law says she is the beneficiary, but you are the owner. As owner, you have the right to change the beneficiary to someone other than your daughter.
...
I don't know if there is a UTMA Coverdell.
I've read that brokerage firms setup a coverdell where the owner and beneficiary are the same when it is funded through a UTMA.
I did not know that. You used the term Coverdell in your original post, not UTMA Coverdell, so I thought you intended to be the owner.

Topic Author
deemma
Posts: 6
Joined: Wed Jan 15, 2014 4:42 pm

Re: Is this proper use of UTMA -> Coverdell to reduce taxes?

Post by deemma » Thu Jan 16, 2014 8:44 pm

There is no such thing as a utma coverdell. This is using utma funds to contribute to coverdell. In this case the owner and beneficiary is one in the same.

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