If you are looking into opening up an account for your child to help save some money for their college expenses you have come to the right place. There are 2 main accounts you can use to reach your goal. I will go over both of them at a basic level and explain some pros and cons of each.
But first I wanted to point out the similarities of both accounts and the advantages of using either one of them to bolster your saving for a college fund. Either of these accounts would be better than just opening up a savings account because of the potential growth and the tax advantages.
Both plans offer the same federal tax advantages. The advantage is similar to a Roth account in that you get the qualified distributions tax free when you take them out. The money must be used to pay for qualified education expenses; if it is not, then taxes are charged and a 10% penalty takes effect. If your child decides not to go to college you can roll the money over to another child or another family member.
529 Plan
A 529 plan is a state specific plan that allows for you and other family members to contribute to a college fund with no contribution limits.
– You can contribute as much as you would like each year.
– Must pay a gift tax if you contribute over $28,000 in one year (married filing jointly)
– There is no income limits for being able to contribute.
– The State may also offer specific state tax deductions
– Can be opened for anyone at any age.
Coverdell Education Savings Account (ESA)
A Coverdell Education Savings Account is another way for you to save for education expenses with its main selling point being the opportunity to invest how you like.
– They are not just offered by the states, but they can be opened up by most investment companies.
– You can choose how you want your money to be invested and are not limited in this.
– You can use the money not only for continuing education, but also for k-12 expenses.
– Has a $2000 per child contribution limit
– You cannot contribute if your income is over $220,000 (married filing jointly) 3.
After looking at both types, we can see some advantages to both. Which one you choose depends on your income, your family, and your investing preferences. If you are not planning on investing more than $2000 per year per child and your income qualifies, then it would probably be advantageous to open up an Education Savings Account. With this you will have the freedom to invest in a prudently diversified investment portfolio that you wouldn’t be able to find with a 529 plan.
By Jimmy Hancock
References
1. Hurley, Joseph. “Coverdell Esa Versus 529 Plan.” Savingforcollege.com. Saving For College LLC, 12 Mar. 2013. Web. 06 Oct. 2014. <http://www.savingforcollege.com/articles/coverdell-ESA-versus-529-Plan>.
2. “Common 529 Questions.” – College Savings & Prepaid Tuition Plans. CSPN, 2010. Web. 06 Oct. 2014. <http://www.collegesavings.org/commonQuestions.aspx>.
3. IRS. “Publication 970 (2013), Tax Benefits for Education.” Publication 970 (2013), Tax Benefits for Education. IRS, n.d. Web. 06 Oct. 2014. <http://www.irs.gov/publications/p970/ch07.html>.