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Ins, outs of custodial accounts

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Question: I have a custodial account for my 17-year-old daughter to which I am the main contributor. Should I roll the funds into a joint account I have with my husband before she reaches her majority in 2002?

Answer: Much as you might want to, legally you can't transfer the money. It belongs to your daughter, even though you are the main contributor and custodian. When she reaches the age of majority, the funds will be hers and she can do whatever she wants with them.

If that's a concern, you have the option of spending the money while you are still the custodian, as long as you use it for something that benefits your daughter. That could be anything from a computer to music lessons.

If you'd rather not spend the money and won't need it for college costs, you could invest it in stocks, bonds or mutual funds, which might not be as easy for your daughter to get access to as a bank account.

Question: I established custodial accounts for my grandchildren in a state where they gain control of them at 21. How can I extend that age?

Answer: Sorry, but you can't do that either, for the same reasons noted above. The money you have given to your grandchildren belongs to them, and they are entitled to it when they reach age 21.

When you set up a custodial account, some states give you the option of extending the age at which the children take control. But if you have already selected the maximum age, that's when the children will get their money.

One way to avoid this is not to use a custodial account, and to set up a trust instead (see the question below). But you need to do that before you give the initial gift. And you should be aware that setting up a trust is more costly than setting up a custodial account.

Question: What are the advantages of establishing a trust for your children?

Answer: With a trust, you avoid the problems discussed in the questions above. If you are making a gift, you can set the age at which the children get access to the money, and you can stipulate how it should be spent in the meantime.

One of the newest wrinkles is so-called incentive trusts, which reward children for certain behaviors. For example, your kids might get a bonus if they earned a graduate degree or started a business.

Have a question about kids and finances for Dr. Tightwad? Write to Dr. T at 1729 H St., N.W., Washington, D.C. 20006. Or send the good doctor an e-mail message (and any other questions for this column) to jbodnar@kiplinger.com.