Dear Quentin,
My wife and I have two kids, aged 8 and 6. When the kids were born, my mother-in-law and her partner started 529 plans for them, and have been contributing since then. My wife and I have not contributed to the 529 college-savings plans; instead, we contributed to custodial accounts under the UGMA/UTMA accounts for each of the kids to have more flexibility when they are older.
Since they started the 529 plans, my mother-in-law and her partner were married, but now their relationship is very rocky. My mother-in-law’s husband opened the 529 plans. The mother-in-law and her spouse live in a community-property state. How can I protect the 529 plans for my children’s use? If they were to split, what would happen to the 529 plans?
There are certainly other issues that would take priority if they split up, but this feels like something that could be dealt with now. I know 529s are great investment vehicles, especially given the new rules about rolling them into a Roth IRA. I allowed myself to be ignorant of the accounts, assuming they were taken care of, but now I’m not so sure.
Concerned Parent
Dear Concerned,
Your children are beneficiaries of this account, and the owner — presumably your mother-in-law, in this case — controls the amount being contributed to a 529 tax-advantaged college savings plan, the investment allocation, and how and when they will be distributed. She can, as the owner of the account, change the beneficiary if she wishes.
UGMA/UTMA accounts — named for the Uniform Gifts to Minors and Uniform Transfers to Minors Act — work differently. They are custodial accounts where the adults maintain control over the account until the child reaches the age of maturity. They are typically taxed at the child’s tax rate — assuming the funds reach the threshold for income tax — rather than that of the parent.
Of course, the best way to resolve this is to do it amicably, and without going through the courts. Legal action can be time-consuming and expensive, and may or may not be worth it given the amount of money invested in the 529 plan. Find out from your in-laws who owns the 529 account. A custodian cannot change the beneficiary, but an owner can do so.
There have been a few court cases surrounding the ownership of such plans, and they have on many occasions treated 529 accounts as the child’s property, even though they’re in a parent’s name, according to the law firm Goldsberry, Portz & Lutterbie. It reviewed a range of cases from Texas to Ohio and New York concerning the division of such accounts in a divorce.
How divorce courts have ruled on 529s
In Ramsay v. Ramsay in Ohio, “the court “regarded the funds in the 529 plan accounts as something other than marital or separate property,” the firm says. “The court considered the accounts to be the property of the parties’ children not subject to division between the parties during the divorce. Courts in Indiana have also treated 529 accounts as separate from the parents’ property.”
In Zuchowski v. Zuchowski, the divorcing parties in New York agreed to share college expenses 50/50, and keep the 529 plan in the wife’s name, but years later when she tried to use that to reduce her share of the college expenses, the court disagreed, and said account should not benefit either party, but be wholly used for the child’s education. (New York and Ohio are not community-property states.)
That said, “while a 529 account may legally be in a parent’s name, courts are likely to consider the funds in the accounts to be the children’s property and not force the parents to divide the account, and therefore withdraw funds and pay a penalty, during a divorce,” Goldsberry, Portz & Lutterbie said. That should help to alleviate your immediate concerns about your children’s 529 plans.
You’re correct that, starting in 2024, your in-laws will be allowed to roll over funds of up to $ 35,000 from their 529 plans to a Roth IRA owned by the beneficiary of the 529 plan. This is primarily designed for people who have overfunded their 529 accounts. In the meantime, I hope your in-laws make the right decision for them regarding their marriage, and wish you the best.
“Of course, the best way to resolve this is to do it amicably, and without going through the courts.”
MarketWatch illustration
Readers write to me with all sorts of dilemmas.
By emailing your questions, you agree to have them published anonymously on MarketWatch. By submitting your story to Dow Jones & Co., the publisher of MarketWatch, you understand and agree that we may use your story, or versions of it, in all media and platforms, including via third parties.
The Moneyist regrets he cannot reply to questions individually.
More from Quentin Fottrell:
My husband ran away to another state, bought a home and opened credit cards. Am I responsible if he defaults?
‘I’m only interested in zero risk’: I’m inheriting $ 100,000. Is a 5.5% CD a good rate? Where else should I invest?
My wife and I want to retire to the Philippines. We have $ 193K in savings and $ 280K in investments, and own a $ 365K home. Can we do it?