What is a Coverdell Education Savings Account? What’s the difference between this and a 529 plan?

A Coverdell Education Savings account is simply what it says it is. A savings account aimed at a special outcome, namely to help people under 18 to pay for education. The account has special incentives to encourage parents to save for the education of their children. This means ALL children, including those with special educational needs.

There is an annual cap on the amount that can be saved in a Coverdell Education savings account, in any one-year and that is $2000. The cap is the same no matter how many accounts parents open. The deposits are NOT tax deductible but the withdrawals are, as are the interest payments. The distributions have to be fully spent on eligible education items in order to attract the tax deductions. The benefit lasts until the young person is 30 but can then be rolled over for a younger family member.

The Coverdell Education Savings account is a federal initiative while the 529 plan for educational saving are state based plans aimed at encouraging saving for education too. 529 plans also give good state income tax breaks. Just like your contributions to the Coverdell plans the 529 deposits are not deductible on your federal tax return, your interest earnings are tax-deferred at both state and federal levels, and withdrawals to pay for the beneficiary’s college fees are not subject to state taxes.

The 529 plan contributions just like the Coverdell education savings plan, is not deductible from your federal tax return. You, the parent of the educational beneficiary have more control over the 529 account than the Coverdell education savings account. There are just a few circumstances where the nominated young person has rights to the deposits. The parent has the sole say when deciding over when to withdraw and what the withdrawals can be spent on. Most 529 plans will let you reclaim the money on your own behalf at any time you wish without problem.

Both savings plans are national. In other words, even thought the 529 is a state initiative the saver can spend the money in any state in the country. Both plans are ‘set up and forget’ until you need them. Establishing the plans is an easy enrollment process with automatic deposits. During the lifetime of the plan you do not have to do anything with it. The money management of both accounts is done by both the 529 plan and the Coverdell and not by the depositor. Plan funds are professionally invested. So the question is not which plan you should take up but rather what stops you doing both.

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