What Is a Custodial Account and How Does It Work?

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A custodial account is a financial account set up by an adult for a minor, typically to save or invest money for their future. The adult, known as the custodian, manages the account until the child reaches a certain age, usually 18 or 21, depending on the state. Read on to learn how they work, best practices and whether it is the right choice for your family.

How Custodial Accounts Work

There are two roles in custodial accounts:

• Custodian: The parent or guardian who manages the account. The custodian must act in the best interest of the child and is responsible for investing and spending the funds of the account. 
• Beneficiary: The child and the account’s owner. Once the child reaches the age of majority — age 18 through 21, depending on the state — the account is transferred from the custodian to the child. The funds can be used for any purpose.

Once the roles are set, this is how a custodial account typically works in practice:

• Set up the account: The custodian can set up the account in the child’s name at a brokerage or a bank. 
• Make contributions: A parent, family member or friend can contribute to the account. 
• Manage the account: The custodian handles the investments in the account, as well as how the money is spent. All transactions must be done in the best interest of the beneficiary. 
• Transfer: At the age of majority, the account should be transferred to the child. The child can do what they want with the funds.

Types of Custodial Accounts

Here’s a side-by-side look at different types of custodial accounts.

Custodial Investment Accounts vs. Custodial Savings Accounts

If you’re considering opening an account for a child, you’ll usually have two main choices: custodial investment accounts or custodial savings accounts.

• Custodial investment accounts: Let you put money into stocks, bonds, ETFs or mutual funds on behalf of a child. They can grow over time and help teach kids about investing, but they also carry market risk and require more oversight.
• Custodial savings accounts: More straightforward, keeping funds in a safe, FDIC-insured account. They don’t earn as much interest but can be useful for emergency funds or short-term savings.

Here’s how they stack up in terms of pros and cons.

Tax Rules for Custodial Accounts

Any income earned by the custodial account, such as interest, dividends or capital gains, is taxed under the child’s name since they are considered the owner. However, specific tax rules apply based on the amount earned:

• No taxes: Taxes will not apply when earning up to $1,350 for the 2025 tax year.
• Child’s tax rate: If income is between $1,350 to $2,700, it’s taxed at the child’s rate.
• Custodian’s marginal tax rate: Anything above $2,700 is taxed at the custodian’s marginal tax rate. 

The “kiddie tax” can also be a downside for families with high earners managing large accounts, as they may face higher tax rates on significant income generated.

How Custodial Accounts Affect College Financial Aid

On a Free Application for Federal Student Aid (FAFSA) that students fill out, you are required to list your assets. The assets are counted based on who owns them. Custodial accounts are considered the student’s assets and therefore, can reduce financial aid eligibility.

How To Open a Custodial Account: 6-Step Guide

It’s easy to open a custodial account. Here is a step-by-step guide:

1. Gather the documentation you need: You’ll need full names, addresses and Social Security numbers for both you and the beneficiary. 
2. Choose the brokerage or bank where you want to open the account: Compare fees, use of platforms and investment options. 
3. Choose the account type: The UGMA account focuses on investing in cash, bonds and stocks, while a UTMA account centers on art and real estate as investments. 
4. Complete the application: Fill out the application and add the appropriate information. 
5. Fund the account: Transfer assets and fund the account. 
6. Make investments: Choose investments that will allow the account to grow. 

Banks and Brokerages Offering Custodial Accounts

• Wells Fargo: There are bank-linked custodial accounts that can make transfers happen quickly. 
• Fidelity: Fidelity has strong educational support and no account fees. 
• Charles Schwab: No minimum deposit is required and there are wide investment options. 
• Vanguard: Low-cost exchange-traded funds (ETFs) and index funds are available. 
• E*TRADE: Strong mutual funds and ETFs on a user-friendly platform. 

Custodial Accounts vs. Other Account Options

How do custodial accounts compare to joint accounts, trusts and 529 plans? Here’s a breakdown:

Best Practices for Managing a Custodial Account

It is a good idea to use your child’s custodial account as a financial tool and a way to teach them about finances. Here are some best practices to keep in mind:

• Understand the goals of the account: Do you want this account for long-term savings, college or general expenses? Understanding your goals will help you decide how to invest the funds. 
• Focus on choosing investments that show growth: When you open the account, you want to make sure you’re choosing assets that grow, like index funds and S&P 500 stocks. As the child nears adulthood, you may want to consider shifting your allocation to bonds or safer investments. 
• Be mindful of taxes: It is a good idea to track annual earnings and spread out contributions to reduce taxable income. 
• Use the account as a teaching moment: You can teach your child about finances and investing by using the custodial account. 
• Plan for the transfer: The transfer will come at age 18 or 21, but it is a good idea to plan and discuss how to manage the account after the transfer.

Is a Custodial Account Right for You?

Custodial accounts are a great way to save for future needs, such as saving for long-term goals like education or establishing financial security for a child. 

Before opening a custodial account, consider the minor’s specific needs, the account’s tax implications, and your ability, as the account custodian, to commit to ethical and transparent management of funds.

Sam DiSalvo and Caitlyn Moorhead contributed to the reporting for this article.

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