When in Rome, Save for College in U.S.


Dear Dr. Don, I have a question about my recent decision to start a Uniform Transfers to Minors Act, or UTMA, account for my 2-year-old. My fiance is Italian, and I am American. We live half the year in Rome, and our daughter may very well want to go to college in Europe, so we did not want to limit her with a 529 or Coverdell college savings plan, which we discovered will only allow her to go to school in the U.S. I would much rather do a 529 plan, but the UTMA seems like the best way to keep her school options open.

Do you suggest an alternative savings fund? I would like to transfer it to a 529 plan later, if the prospect of her going to school in the U.S. is very high, but I am not sure I can do that. -- Kathryn Collegiate

Dear Kathryn, You started out with a faulty premise that you can only reap the tax benefits from a Section 529 plan or Coverdell account if your daughter attends an American college or university. There are hundreds of foreign schools that are qualified institutions of higher learning where you can spend her 529 plan money on qualified higher education expenses.

Internal Revenue Service Publication 970 defines eligible education institutions as any college, university, vocational school or other postsecondary educational institution eligible to participate in a student aid program administered by the U.S. Department of Education. That includes certain educational institutions located outside the United States that also participate in the U.S. Department of Education's Federal Student Aid programs.

UTMA and Uniform Gifts to Minors Act, or UGMA, accounts are custodial accounts in which a parent or guardian controls how the account is managed and invested until the minor reaches the age of majority for that account. At that time, control of the account is transferred to the child. UTMAs are more flexible as to the types of assets that can be transferred to the minor. UGMAs limit assets to securities, mutual funds, insurance policies and bank deposits.

A Coverdell education savings account is a tax-advantaged account invested for a child's future college expenses. Contributions are made with after-tax dollars, but the investment returns aren't taxed when the student uses them for qualified education expenses. The Coverdell has to be used for the beneficiary, but the responsible individual named on the account can make sure the money is only used for educational expenses, at least up to age 30, and the beneficiary can be changed to another family member who is younger than 30 years old. At age 30, the custodian has to distribute any remaining funds to the beneficiary within 30 days.

I don't like recommending UTMA or UGMA accounts for children because, at least in the U.S., the money is considered the child's for financial aid purposes and may reduce the amount of federal student aid he or she can qualify for in college. The money also comes under the child's control when he or she reaches the age of majority for that account. If a child wants to use the money to buy a Fiat 500 instead of pay for tuition, his or her parents don't get to say no.

As student-owned 529 plans don't reduce federal financial aid eligibility, the later transfer of UGMA and UTMA accounts into student-owned 529 plans can sidestep the financial aid issue but not the control issue -- the child gains control of the account when he or she reaches the age of majority for that type of account.

There also may be capital gains taxes on unrealized gains when converting the assets in the UTMA/UGMA accounts to 529 plan contributions.

Coverdell education savings accounts give you more flexibility as to where you hold the money and how it's invested compared to most 529 plans. The downside of the Coverdell is the fairly low limits on annual contributions and income thresholds, restricting individuals from contributing to this type of account.

I read enough of the "double tax treaty" between the U.S. and Italy to make my eyes glaze over and send you to your accountant. Look to him or her to discuss the tax savings aspect of the accounts given how you split your time between the two countries.

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