Explaining the Coverdell ESA
Formerly referred to as the Education IRA, the name was changed to the Coverdell Education Savings Account in 2002. A Coverdell ESA permits custodians to save money for qualified education expenses for a named beneficiary who is under the age of 18 when the account is established. In addition, the savings can be used for both higher education and certain K-12 expenses. The Coverdell ESA is a tax-free investment option that offers tax-free withdrawals when the funds are used for qualified expenses. It’s attractive for families with fewer dollars to invest, who meet the eligibility requirements and aim to use the funds for both elementary and secondary as well as higher education expenses.
1) No Relationship Required. A Coverdell ESA does not require that there be a relationship between the custodian and the beneficiary. Friends, family and even companies or other entities may establish an account and make contributions.
2) Child Contributor. For families who earn more than the maximum income permitted, the beneficiary may make contributions to the account themselves with money gifted to them if they earn less than the maximum income allowed.
3) Qualified Expenses. With the option to use the funds for qualified elementary and secondary school expenses, the Coverdell ESA offers expanded savings options when compared to other plans.
1) Low Maximum Limit. With a $2,000 maximum contribution limit, the Coverdell ESA has a much lower limit than other savings plans per child.
2) Eligibility Requirements. Families must have a modified annual adjusted gross income of under $220,000 annually, or $110,000 for a single parent. Contributions made by individuals whose income exceeds this level will be subject to penalties.
3) Withdrawal Age. Funds must be fully withdrawn by the time the custodian turns 30, unless the individual has special needs. Certain transfers to family members are permitted.
4) Not tax-deductible. Finally, contributions to a Coverdell ESA are not tax-deductible.
The Better Alternative You Didn’t Know Existed
The Coverdell ESA has aspects that are appealing to parents, but it comes with its own set of limitations and drawbacks. The alternative to Coverdell ESA pertinent to college and education savings is a trust. Kiss Trust is the only provider of small trusts, family trusts and education savings trusts for parents saving for their child’s education and college expenses. With a trust, there are no annual contribution limits, and like Coverdell ESAs, anyone can contribute to it. With HESM provisions included, Kiss Trust lets parents create and fund trusts that can be used for education expenses. There is no limitation on annual salary either, so these trusts are available for anyone with a need to save and protect money for a child’s education. Unlike a Coverdell ESA, you can set distribution options to extend beyond the cutoff age of 30 years old, while preserving its principal. With one trust, family members can save for a child’s education, first home, retirement, and beyond with assurance that the funds will be used for the specified reasons.
Thus, a Coverdell ESA is an attractive savings plan for many families with the inclusion of qualified elementary and secondary education expenses, but it does come with its own set of limitations. When researching savings plans for college tuition, compare advantages and disadvantages with every plan before making a final decision that you may end up regretting.