Coverdell Education Savings Account

In 1997 the Taxpayer Relief Act of 1997 created another type of IRA, the "Education IRA." Unlike its peers, an Education IRA or EDIRA, is funded and utilized for the exclusive purpose of paying the future higher education expenses of a designated beneficiary. The designated beneficiary does not have to be an immediate family member, but can be, for example, a grandchild, niece or nephew. In 2001, with the passage of the Economic Growth and Tax Relief Reconciliation Act (EGTRRA), The Education IRA was renamed the Coverdell Education Savings Account (CESA) and this type of college savings vehicle has been greatly expanded with the . Contributions have been increased to $2,000 per person per year. Accounts can be set up with most brokers or mutual fund companies.

Some Pros and Cons:

• Great flexibility of investment choice. YOU choose how the funds are invested.
• Money can be used for primary and secondary education expenses.
• Federal Income Tax-free withdrawals for qualified education expenses (tuition, fees, tutoring, books, supplies, related equipment, room and board, uniforms, transportation, extended day programs, computers, Internet access). In Oregon State Income Tax Free as well (Washington has no state income tax).
• Can make contributions up until the 15th of April 15 of the following year.
• Anyone can contribute if they meet the earnings requirements.
• Can contribute to both an education IRA and a 529 plan, (there may be gift tax consequences if you contribute more than $12,000 per person in the same tax year.)
• Can still claim HOPE and lifetime learning credits as long as the payout from the CESA isn't used for the same expenses for which credit is taken.
• If you don't meet the earnings requirements (see below), you can gift $2,000 to the beneficiary and let them set up their own account.

• Total contributions may not exceed $2,000 a year per beneficiary.
• No matter how many people contribute, total contributions per child can't exceed $2,000.
• Earnings restrictions: If you earn $95,000-$110,000 (single) or $190,000-$220,000 (married filing joint), contributions will be limited; if you earn more than $110,000 (single) or $220,000 (married filing joint), contributions are not allowed.
• Beneficiaries must be under age 18 when contributions are made (except special-needs beneficiaries).
• Money must be used by age 30 or earnings are taxed as ordinary income plus a 10% penalty (except special-needs beneficiaries). To avoid this taxation, accounts can be rolled over into another family member's Coverdell accounts.
• Beneficiary owns the account. If they don't go to college or use the money for primary or secondary school, the donor can't get his/her money back.(Section 529 plans are owned by the donor)
• Since the beneficiary owns the CESA, less financial aid may be available.
• No state tax deduction for contributions in some states.
• No guarantee of positive investment returns. Account can lose money.

Earnings within the CESA will grow tax deferred and the contributions made by donors are not includible in the taxable income of the beneficiary. Tax free distributions from the CESA must be applied exclusively toward the payment of qualified higher education expenses on behalf of the beneficiary. To the extent distributions are not utilized for the purpose of meeting higher education expenses, the earnings are includible in the taxable income of the beneficiary and subject to a 10% penalty.

Qualified higher education expenses includes tuition, fees, books, supplies and equipment required for the enrollment or attendance of a designated beneficiary at an eligible institution. Room and board expenses are also eligible but are subject to specific rules which should be reviewed to make sure the expenses qualify. Qualified higher education expenses do not include elementary or secondary school expenses and are reduced by the amount of any scholarships or other excludable financial aid received. CESA's can be used to cover qualified education expenses which includes both qualified higher education expenses and qualified elementary and secondary education expenses.

Distributions can be rolled over to an CESA of a family member if unused. This distribution may be non-taxable provided that no more than one rollover per year is undertaken and the amount distributed is rolled over within 60 days. Any balance remaining in the CESA of a beneficiary after his or her 30th birthday must be immediately distributed. The distribution to the beneficiary will be taxable and exposed to the 10% penalty.

Of course, this brief article is no substitute for a careful consideration of all of the advantages and disadvantages of this matter in light of your unique personal circumstances. Before implementing an education planning strategy, contact and consult with your Financial Advisor and tax professional.