Investing For Your Child In A Custodial Account: Risks And Benefits

by: Rocco Pendola

At the beginning of the month, I wrote an article introducing my 8-year old daughter's stock portfolio.

I have it set up as a custodial account. Before I made that move, I investigated the ins and outs of how this type of arrangement works. While I could go through a laundry list of pros and cons, the long and short of it is:

  • Once money hits that account, it is the minor's money. I merely manage that money until she is of age to access it.
  • I cannot take that money out and use it for my own purposes. It is her money. I am just managing it.
  • Once she turns 18 or 21 - it depends on the state - the money becomes hers. She can do with it as she pleases. I believe California, where I live, sets the age at 18.

And, of course, there's a small tax advantage, particularly on relatively small amounts of money. Because the Seeking Alpha audience consists of some of the most experienced and sophisticated investors on the planet, I solicit comments from readers who have experience with this type of account. Not only will you help me with your knowledge and experiences, but you'll assist the larger readership.

While I fully expect the entire process to go off without issue, you have to think about the possibility that it will not. Just as you have to consider a prenuptial agreement prior to marriage if you're Tom Cruise, you have to take into account a situation where your kid gets her hands on her loot at age 18 and does something really stupid with it.

I am the type of parent - or at least I think I am - who would have no problem with her heading off to Europe for a year out of high school to "find herself."

If she decides to give all of her money away to Greenpeace or Rick Santorum's third run for the White House, however, I might have an issue. I would also take exception with her blowing it on coke or the note on a Laundromat her parolee boyfriend wants to open up. I have to draw the line somewhere.

Ideally, she'll just remind me to write covered calls against her shares for her each month or she'll do it herself. But, I was 18 once, and I know what I would have done with a serious chunk of cash. I would have high-tailed it to Canada six nights a week to drink Molsons and attend the Canadian ballet.

That said, I think the benefits outweigh the risks or else I would not have opened the account in the first place. Anyway, I appreciate, in advance, any and all insight.

Two more things, for the record.

First, an update on the account itself:

Madison Square Garden (NASDAQ:MSG) is on a roll, notching a 52-week high today. I just realized, however, that I might have to resist the urge to root for the Ottawa Senators to beat the New York Rangers on Thursday night because:

It would also be costly for Madison Square Garden shareholders, who already have experienced disappointing financial results in fiscal 2012, as net income came in at $47 million during the first six months, $5 million below last year's comparable period. Each Rangers home playoff game represents roughly $1 million in net income for MSG. A trip to the finals would have likely meant at least 10 more home games.

I must note that the disappointing results came thanks to the NBA work stoppage, which kept the Knicks off of the court and off of MSG's family of networks.

It just feels strange to root against a Canadian team, even though I am not Canadian. But, we do a lot for and because of our investments.

And it's not just the mere absence of Rangers games that would sting, the ratings have been pretty solid as well. I look at this long-term, however, and like Rogers Communications (NYSE:RCI) and BCE, Inc. (NYSE:BCE) in Canada, MSG owns the team, the arena and the station the team plays on. It does not get much more synergistic than that.

Kraft (KFT), meantime, is just short of its 52-week high. Viacom (NYSE:VIA) (NASDAQ:VIAB) trails its yearly pinnacle by about $4-$5.

Second, my daughter chided me last night for not buying Apple (NASDAQ:AAPL) for her account. If you recall, she wanted to go with Apple, but I steered her away form it as well as Pandora (NYSE:P).

Little does she know that we would be down big had we made that move. Sharebuilder processed our first buys on April 3, 2012 with $500. Even if we got in at AAPL's low that day - $622.51 - with 0.8 shares we would be down today. Those 0.8 shares would be worth $488, good for a 2.4% on-paper loss, compared to our present 1.2% gain.

Disclosure: I am long BCE, KFT, MSG, P, RCI, VIAB.

Additional disclosure: I indirectly hold KFT, MSG and VIAB in a custodial account set up for my daughter.