The Federal government and several states have helped those saving for college by providing tax benefits. Coverdell Education Savings Accounts (CESAs) and Section 529 plans offer tax-free growth of any investment earnings and tax-free withdrawal of proceeds for qualified educational expenses, which makes them attractive if you are saving for the education of a child, grandchild or any other child under age 18.
While neither CESA nor 529 plan contributions are tax-deductible, any earnings are tax-free and they may be withdrawn tax-free for qualified educational expenses, such as tuition, room and board, and fees. CESAs also allow tax-free withdrawals for qualified expenses related to primary and secondary school. Therefore, the CESA offers one of the few tax-advantaged ways to save for pre-college educational expenses.
Section 529 Plans are named for the section of the Internal Revenue Code that created them. These plans are offered by individual states and eligible educational institutions. At this point, state sponsored plans are far more common so this discussion covers them. They are usually run by professional money managers, and generally offer several investment choices and features.*
An advantage of Section 529 Plans is that contribution amounts can be quite large -- as much as $200,000 or more per child, depending on the terms of the plan selected. In addition, most plans allow contributions from out-of-state residents and permit you to contribute to more than one plan.
As with CESAs, contributions to Section 529 Plans are not tax-deductible, although some states offer state tax deductions to residents who participate in their own state's plan. Like CESAs, investments in Section 529 Plans grow tax-free. Withdrawals from these plans are also tax-free.**
If you select a state sponsored plan, keep in mind that different states have different types of plans. With most plans, you can use the value accrued in your plan for any accredited institution of higher learning in the U.S. -- not just in the state where the plan is located.
With both CESA and 529 Plans, if you withdraw money in the account for non-educational purposes, you may be subject to an additional 10 percent federal income tax penalty and potential state penalties. However, you may change the beneficiary and there are no tax consequences as long as the new beneficiary is a member of the same family.
Now is the Time to Save for College With the cost of four years at a top private college already exceeding $200,000, there is no time to waste in putting money aside for educational expenses. Whether the child is a few months old or nearly college-age, talk to your financial advisor now about ways to make college a reality.
*As with other investments, there are generally fees and charges associated with participation in a 529 plan. There are no guarantees regarding the performance of the underlying investments.
** The tax implications of a 529 plan should be discussed with your legal and/or tax advisors.
AXA Advisors, LLC does not provide legal or tax advice. Please consult your tax or legal advisor regarding your individual situation.
Joy Jackson offers securities and investment advisory services through AXA Advisors, LLC (member NASD, SIPC) and offers annuity and insurance products through an insurance brokerage affiliate, AXA Network, LLC and its subsidiaries. Jackson can be reached at firstname.lastname@example.org or 212-541-1851.