Custodial accounts are set up by parents or grandparents with the help of a brokerage house or bank for their children or grandchildren. These accounts have the benefit of the estate and gift tax exclusion that allows individuals to give $11,000 per year ($22,000 per couple) in 2007 to any number of recipients without any effect to the giver’s estate tax threshold amount (This concept will be discussed further in the section on estate planning). Parents, friends, and others can put money in these accounts to help children save for education, missions, or other personal goals.

An advantage of this type of account is that the funds can be invested in all types of financial assets: stocks, bonds, mutual funds, and so on. Money from these accounts can also be used to pay for many purchases not covered by other types of education savings vehicles: money from custodial accounts can be used for any purpose, including missions, miscellaneous fees, travel costs, and so on.

The disadvantage of this type of account is that it has no tax advantages, and this money is considered the child’s money as soon as the child is of age, so the issuer cannot take the money back to use it for other purposes. Also, since this money is considered the child’s money, it may reduce the amount of additional financial aid that is available to the child.  While I at one time advocated custodial accounts, I am recommending them less and less.