There are many ways to save for a child’s or grandchild’s education, but one has annual contribution limits, and if you do not make a 2016 contribution by December 31, the opportunity will be lost forever. We are talking about Coverdell Education Savings Accounts (ESAs).
How ESAs work
With an ESA, you contribute money now that the beneficiary can use later to pay qualified education expenses:
- Although contributions are not deductible, plan assets can grow tax-deferred, and distributions used for qualified education expenses are tax-free.
- You can contribute until the child reaches age 18 (except beneficiaries with special needs).
- You remain in control of the account — even after the child is of legal age.
- You can make rollovers to another qualifying family member.
Not just for college
One major advantage of ESAs over another popular education saving tool, the Section 529 plan, is that tax-free ESA distributions are not limited to college expenses; they also can fund elementary and secondary school costs. That means you can use ESA funds to pay for such qualified expenses as tutoring and private school tuition.
Another advantage is that you have more investment options. So, ESAs are beneficial if you would like to have direct control over how and where your contributions are invested.
Annual contribution limits
The annual contribution limit is $2,000 per beneficiary. However, the ability to contribute is phased out based on income.
The limit begins to phase out at a modified adjusted gross income (MAGI) of $190,000 for married filing jointly and $95,000 for other filers. No contribution can be made when MAGI hits $220,000 and $110,000, respectively.
Maximizing ESA savings
Because the annual contribution limit is low, if you want to maximize your ESA savings, it is important to contribute every year in which you are eligible. The contribution limit does not carry over from year to year. In other words, if you do not make a $2,000 contribution in 2016, you cannot add that $2,000 to the 2017 limit and make a $4,000 contribution next year.
However, because the contribution limit applies on a per beneficiary basis, before contributing make sure no one else has contributed to an ESA on behalf of the same beneficiary. If someone else has, you will need to reduce your contribution accordingly.
Would you like more information about ESAs or other tax-advantaged ways to fund your child’s or grandchild’s education expenses? Contact us.