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The Coverdell Account; An alternative to the 529 savings plan

Often hidden in the shadow of its better-known sibling, the 529 plan, the Coverdell Account is a good, tax-free option for a college savings account. Although deposits are not tax exempt they grow tax-free if the funds are spent on school. Acceptable expenses are tuition, computers, transportation, tutoring, uniforms, books, and supplies.

Coverdell Account money can be used to pay for elementary school and high school. This benefits parents who put their kids in private schools that have high tuition rates and require.

The 529 vs. the Coverdell

Coverdell accounts have more investment options than 529 plans. Investors have their choice of stocks, bonds, mutual funds and certificates of deposit. The contributor can make changes in how the funds are used, and avoid losing money because of bad investments. If you lose money, you are eligible to claim the loss on their tax return.

There are drawbacks to the Coverdell Plan. Unlike the 529 Plan, the Coverdell has a yearly deposit limit of $2,000 per child. Additional deposits are subject to an annual penalty fee of 6%. Also, the account must be created and deposits must end before the child turns 18. After that, the beneficiary has until age 30 use their savings. If not, the beneficiary will have to roll over their savings to a sibling under 18, or face a 10% penalty fee. On the other hand, 529 plans are open to both children and adults.

Is the Coverdell Right for Me?

The Coverdell Account a good option for middle-class parents who won’t put away more than $2,000 per year. Keep in mind that this is a per-child limit, not a family limit meaning families with multiple children can deposit up to $2,000 per child.

Parents who want to send their kids to private school will also benefit from the tax-free incentives of Coverdell plans.

High-income families will not benefit much from this plan. The Coverdell Account has both deposit limit and income restrictions. Single parents making more than $110,000 and marries couples making more than $220,000 combined cannot use this plan. Single filing parents making over $95,000 and joint-filing parents making over $190,000 cannot deposit a full $2,000 per year.

Combining 529s and Coverdell accounts is an option to consider, but that option does not work for all families. For example, using the 529 prepaid plan option with the Coverdell allows contributors to purchase fixed tuition and to put away non-taxable money. For more information on the Coverdell Plan, visit: http://www.irs.gov/publications/p970/ch07.html

Last Edited: November 2015

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