Should a custodial account held by a grandparent be reported on the grandchild's FAFSA?

Does a parent need to disclose (on the FAFSA) funds in an UGMA or UTMA account in the student's name with a grandparent as custodian? If so, how does this affect a student's eligibility for financial aid? Are there penalties for not reporting such an account, even if the parent and student have no knowledge of its existence? Would it be advantageous for the grandparent to roll it over into a custodial 529 account? When the funds are turned over to the student, will it trigger gift tax if it's over a certain amount? — Karen D. Funds in a custodial bank account are treated as an asset of the child regardless of whether the custodian is a parent or grandparent or a complete stranger. This will reduce aid eligibility by 20% of the funds in the account. If you know about the account and fail to report it, the penalties include fines of up to $20,000 and imprisonment for up to 5 years. Since the bank will issue an IRS Form 1099-INT to the child for the interest earned by the account, your failure to report the account will most likely be knowing and willful. If the grandparent rolls the funds into a custodial 529 college savings plan, the money will be treated as a parent asset if the child is a dependent student and as a student asset if the child is an independent student. Parent assets are treated more favorably than child assets by the need analysis formulas. Note that a non-custodial 529 college savings plan owned by a grandparent is not reported on the beneficiary's FAFSA if the beneficiary is a dependent student. If the beneficiary is an independent student it is still reported on the FAFSA. Grandparent-owned 529 plans are reported on the CSS/Financial Aid PROFILE of the beneficiary regardless of whether the beneficiary is a dependent or independent student. Qualified distributions from a 529 plan account do not count as income or estimated financial assistance if the account is owned by the student or parent. While distributions from a 529 plan owned by a third party should technically not be reported as income to the student or a resource, guidance published by the US Department of Education indicates that it should be reported as untaxed income on the subsequent year's FAFSA. (Section 604(a)(6) of the College Cost Reduction and Access Act of 2007 specified that qualified distributions from 529 college savings plans, prepaid tuition plans and Coverdell education savings accounts are not reported as income on the FAFSA. Non-qualified distributions are still reported as part of adjusted gross income. Dear Colleague Letters GEN-04-02 and GEN-06-10 from the US Department of Education are consistent with the statute. However, the US Department of Education subsequently published guidance in the 2009-10 Application and Verification Guide that clarified that qualified distributions from accounts owned by a third party should be reported as untaxed income to the beneficiary on the following year's FAFSA. The most recent guidance determines the treatment.) When the child reaches the age of trust termination (age 18 or 21 depending on the state), the grandparent must turn over the account to the child. This does not trigger gift tax. Rather, each year the grandparent contributed money to the account the contribution would have been subjected to the annual gift tax exclusion and any excess reported on a gift tax return (IRS Form 709) and charged against the lifetime gift tax exemption. Also, gift tax is paid by the person making the gift, not the person receiving the gift.