Money Sense Tips

With education costs ever increasing, it’s important to get a head start. The Coverdell Education Savings Account, or Coverdell ESA, can help us save the money we need for our children’s schooling, and it offers some attractive tax benefits.

Formerly known as an Education Individual Retirement Account, the Coverdell ESA does have some things in common with IRAs. Contributions are not tax-exempt, but interest is as long as the funds are used for education. Account owners can choose from a variety of investment strategies, including stocks, bonds and mutual funds, and may make adjustments to these investments periodically.

A Coverdell ESA may be set up for anyone under the age of 18. Contributions may be made until the same age. All contributions must be in the form of cash, but cash contributions from corporations are permissible.


One of the most attractive aspects of the Coverdell ESA is that the proceeds can be used for any level of education. Unlike 529 plans that may only be used for college, Coverdell ESA funds may be withdrawn without penalty to use for elementary or secondary education as well. The money may be put toward tuition, fees, books, supplies and required equipment. Those who are enrolled at least half time may also use the funds to pay for room and board.

There are certain restrictions imposed on Coverdell ESAs. One of the most important is the $2,000 yearly contribution limit per beneficiary. There is no limit to the number of Coverdell accounts that may be set up for one beneficiary, but contributions across all such accounts can still be no more than $2,000 per year. Contributors with an adjusted gross income of over $95,000 may not contribute the full amount.

Another thing it’s important to remember is that all funds must be withdrawn by the beneficiary’s 30th birthday. The only exception to this rule is for special needs students, for whom there is no age limit. If the funds for a non-special needs student are not used by the time he turns 30, they must be rolled over into an ESA for another family member to avoid taxes and penalties.

Coverdell ESAs have an effect on financial aid eligibility. The effect is largest when the account is owned by a student who is not a dependent, but the account is also considered to a lesser extent if it is owned by a parent or a dependent student. Withdrawals may be limited if claiming a Hope Scholarship or Lifetime Learning tax credit in the same year.

A Coverdell ESA is great for saving for any level of education. While it may not pay for the entire cost of college, its benefits make it a good choice for most families. A Coverdell ESA can be used in conjunction with a 529 plan or other investment vehicle, so you can still save up a great deal of money.

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If you want to send your children to college, starting to save while they are young will leave you better prepared to handle the expense. We all know that it’s best to put money into something that will draw interest, but what about the tax implications? Wouldn’t it be great if we could invest in something similar to a 401K that would pay out tax-free when it was time for college?

Actually, we can. It’s called a 529 plan, and it offers the opportunity to save up for higher education without forfeiting a percentage of the interest earned to the government. Named from Section 529 of the Internal Revenue Code, 529 plans have only recently become well known. But their tax advantages have led to a boom in popularity, and they are currently one of the top methods of saving for college. Read about the explanation of 529 plans.

The 529 plan offers a number of tax advantages. These include the following:


* Contributions may be deducted from state income tax in many states. This can reduce one’s state tax liability each year.

* Interest accrued in a 529 plan is tax-deferred. Early distributions and withdrawals that are not used for education expenses may be subject to taxes and penalties. But if the funds are used strictly for the higher education of the beneficiary, they are exempt from both federal and state taxes.

* Most states have high maximums for contributions to a 529 plan. Some allow for contributions of as much as $300,000 per beneficiary. That allows for a significant amount of interest to accrue tax-free.

* A 529 plan can be useful in estate planning. The assets in the plan are not counted as part of the owner’s estate, yet they can be reclaimed at any time. Reclaiming the assets usually results in income tax and penalties, but the estate tax may be reduced without using the money for education in some cases.

* In the event that a 529 account loses value, the funds may be withdrawn and the losses deducted from taxes.

Other Advantages

In addition to tax advantages, 529 plans are advantageous in several other ways. These include:

* All investments are handled by the program manager. All the plan owner has to do is choose the type of investment he wants to pursue and make contributions. The rest is taken care of by knowledgeable investors.

* A 529 plan can be set up so that it does not affect eligibility for financial aid. Accounts owned by students and parents can hurt eligibility, but if the account is set up by a grandparent or other individual, the amount is not considered in figuring the family contribution.

* Prepaid tuition plans are often backed by the state. This means that they cannot lose value.

A 529 plan can be used to ensure that your child has the opportunity to go to college. And unlike many other investments, its interest is not subject to taxes. If you’re looking for a way to save for education without losing a portion of the interest gained, a 529 might be the plan for you. For more info, check out StudentLoanMentor.