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College Funding Begin Early and Seek Professional Advice Types of Plans: General Education Funding Techniques
Coverdell Education Savings Accounts (formerly Education IRAs) – Taxpayers may deposit up to $2,000 per year into a Coverdell Education Savings Account (ESA) for a child under age 18. Parents, grandparents, and other family members, friends, and children themselves may contribute to the Coverdell ESA, provided that the total contributions during the taxable year do not exceed the $2,000 limit. Amounts deposited into the account grow tax-free until distributed, and the child will not owe tax on any withdrawal fro the account if the child’s qualified higher education expenses at an eligible educational institution for the year equal or exceed the amount of withdrawal. Eligible expenses also include elementary and secondary school (K-12) costs and the cost of computer equipment, internet services, and software. If the child does not need the money for post-secondary education, the account balance can be rolled over to the Coverdell ESA of certain family members who can use it for their education expenses. Amounts withdrawn from a Coverdell ESA that exceed the child’s qualified education expenses in a taxable year are generally subject to income tax and to an additional tax of 10%. Uniform Gift to Minors Act (UGMA) and Uniform Transfer to Minors Act (UTMA) – A donor may make an outright gift to a custodial account for the benefit of a minor child. The parent or custodian may retain responsibility of management of the assets in the account subject to the terms of the act. The standard rules regarding gift tax exclusions apply, including the annual $12,000 limit. The donor may chose to contribute from a number of assets, such a s stocks, bonds, mutual funds or real estate. The funds may be used for any purpose for the benefit of the minor, including education. One possible problem with the UGMA and UTMA is that upon reaching a certain age, specified by each state’s laws, the child has full discretionary control over the accumulated assets and may chose to use such assets for purposes other than college funding. Cash Value Life Insurance – Although the primary purpose of life insurance is to provide a death benefit, parents, grandparents, or other family members may gift premiums, and the cash value build-up inside the policy is tax deferred during the accumulation period. When the time for college arrives, the needed cash may be withdrawn from the policy (generally on a tax-free basis up to the amount of the premiums paid), or the cash value and death benefit. If the policy is surrendered or lapses, taxes may be due. If the insured dies before the child goes to school, then the life insurance proceeds can be used to fund education expenses. U.S. Savings Bonds – Interest earned by U.S. Series EE Savings Bonds is free from state income taxes. All or some of the interest may also be free from federal income taxes if the bonds are used for qualified higher education expenses. The exclusion from federal tax is subject to an income phaseout. The bonds must be registered in the parent’s name and redeemed in the same year as the eligible tuition and fees are paid. Consult with your legal or tax advisor to determine your eligibility to use a specific strategy, and adverse tax consequences of a particular strategy, and whether a particular strategy would be beneficial for you. Who Owns the Funds? Other Resources |
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