Education Planning - Education Savings Vehicles

  1. Qualified Tuition Program (also known as Section 529 plans) - Program run by a state, state agency or education institution that allows for prepayment of qualified education expenses or contributions to a tax-free account for education savings. Earnings are tax free. Comes in two varieties: the college savings plan and the prepaid tuition program.
    • Prepaid tuition plan - parent or other account owner contributes cash for beneficiary and the contribution purchases tuition credits at current tuition rates.
    • College savings plan - parent or other account owner contributes on behalf of beneficiary with contributions invested according to the term's investment options.
    • Contributions are not deductible.
    • Tax-free distributions for qualified expenses.
    • Applies to tuition, fees, books, supplies, equipment, room and board if at least a half-time student and expenses for special needs services.
    • Covers undergraduate and graduate education.
    • Qualifies for $14,000 annual gift tax exclusion for 2013.
    • Contributor may prorate contribution over five years for purposes of claiming gift tax exclusion. Allows for one-time contribution of $70,000 ($14,000 per year times five years) for a single beneficiary.
    • No income phaseout.
    • May be eligible for state tax deduction.
    • Nonqualified distributions subject to regular income tax plus additional 10% tax.
    • Transfers between beneficiaries belonging to the same family allowed.
  2. Coverdell Education Savings Account- Account set up to pay the qualified education expenses of a designated beneficiary. Earnings are tax free.
    • $2,000 contribution limit per beneficiary regardless of the number ESAs set up for the beneficiary.
    • Contributions are not deductible.
    • Contributions not allowed once beneficiary reaches age 18 (unless a special needs beneficiary).
    • Tax-free distributions for qualified expenses.
    • Covers undergraduate, graduate and K-12 education.
    • Applies to tuition, fees, books, supplies, equipment, payments to qualified tuition programs and special needs services.
    • Assets must be distributed by age 30 unless beneficiary has special needs.
    • Nonqualified distributions subject to regular income tax plus additional 10% tax.
    • Income phaseouts for contributions: $95,000 to $110,000 (single); $190,000 to $220,000 (joint returns).
  3. Custodial Accounts - An account created at a bank, brokerage firm or mutual fund company that is managed by an adult for a minor that is under the age of 18 to 21 (depending on state legislation).
    • UTMA and UGMA allow parents and other family members to transfer assets to a minor without setting up a special trust. The donor appoints a custodian or trustee to look after the account. The donor can appoint him/herself to be custodian.
    • Transfers to UTMA or UGMA accounts qualify for the annual gift tax exclusion.
    • At one time, UTMA and UGMA accounts were popular vehicles for college savings, but they have declined with the emergence of 529 plans.
    • Property transferred to UTMA or UGMA account becomes property of child immediately and irrevocably.
    • Child gains full control of the account at the age of majority, usually 18 or 21, depending on the state.
    • UGMA accounts, which came first, are restricted to holding cash or securities.
    • UTMA accounts, in addition to cash and securities, may also hold other property, including real estate, art, patents and royalties.
    • Assets held in an UTMA or UGMA account may hurt a student's chances of qualifying financial aid since a greater portion of a child's assets are expected to be allocated to education costs than a parent's.
    • Expansion of "kiddie tax" to those up to age 18 expected to diminish further popularity of UTMA and UGMA accounts for college savings.
  4. Savings bonds- Interest earned on savings bonds used to cover qualified education expenses is not subject to tax.
    • Limit is equal to amount of qualified education expenses.
    • Covers only tuition and required enrollment fees.
    • Tax-free transfers to Coverdell Education Savings Accounts and 529 plans also allowed.
    • Applies to undergraduate and graduate education.
    • Only series EE bonds issued after 1989 or all series I bonds qualify.
    • The bond owner must be an adult at least 24 years old before the bond's issue date.
    • Income phaseouts: $74,700 to $89,700 (single); $112,050 to $142,050 (joint returns).
Financial Aid
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