1. Education Savings Account: Introduction
  2. Education Savings Account: Qualifying To Contribute
  3. Education Savings Account: Opening An ESA
  4. Education Savings Account: Avoiding Taxes On Distributions
  5. Education Savings Account: Conclusion

By Reyna Gobel

Once you know you can contribute to an account, you can open an ESA at pretty much any bank, credit union, mutual fund company, or brokerage firm. The question is when a whole community of people can contribute to an account, who should open it and where?

Choosing Where to Open an ESA
Like any other investment opportunity, you will want to think about fees, average returns and minimum deposits. A good way to start is by talking with people and places you trust.

  • Ask family members and friends who have ESA accounts where they have theirs. Then call the financial institution for details.
  • Talk to your bank and financial advisors. You can take it a step further and find out if mutual funds you currently own have ESA options, too.
  • Research online. If you don't know anyone with an ESA, turn to the opinions of others. Search for professional ratings and personal opinions online. Call financial institutions that are highly recommended to ask for details such as minimum opening deposit, fees involved, procedures for making deposits and average returns.
  • Use all three above and then compare on paper. Take out a sheet of paper or open a computer file. Write down important information about the top three ESAs recommended. Compare benefits of each before choosing an ESA. Since the child could have this investment account for up to 30 years, you want to be as careful about choosing an ESA as you would a mortgage. Of course, if you are not happy with your original choice you can always transfer the ESA to another financial institution.
Organizing Accounts Among Relatives and Friends
A time-cherished gift from grandparent to grandchild is a savings bond. An ESA contribution is a continuation of this tradition. (For more on this investment, see Savings Bonds For Income And Safety.)

Each contributor can open his or her own account, but the parents of the child will then need to keep track of the money in all accounts. Otherwise, they won't be able to calculate what additional funds they need to pay for their child's education. If possible, it's better for parents to open the ESA and for contributors to deposit the money into the ESA opened by the parent.

What Investments Are in an ESA?
ESAs can be comprised of any combination of investments: mutual funds, stocks, bonds, money market funds etc. The investments not allowed in an ESA include collectibles, with the exception of U.S. Treasury coins. Equally as important as the investment is making sure cash is being deposited into the ESA.

What If You Have More Than One Child?
Just like Johnny and Cindy could contribute to an account for their niece and their own child, you can contribute up to $2,000 for each of your children. If you can't afford to contribute $2,000 per child, divide what you can afford among all your children. You can do this equally or use a strategy of putting more in your eldest child's account, since he or she will need the money first. Once the eldest goes to college, you can start contributing more for your younger children.

However, pay attention to your yearly contributions if others are contributing. If total contributions from all involved exceed $2,000, there could be tax penalties that your child would have to pay. We'll look at these in the next section. (Put your kids through school without being hounded by the tax man. Check out Clearing Up Tax Confusion For College Savings Accounts.)

Don't let the fear of taxes make you refuse money, just ask for excess contributions to go to another account, such as a 529 Plan. (For more information on 529 Plan, check out the 529 Plan Tutorial )

Takeaways for Opening a Coverdell Education Savings Account
Choose an ESA carefully. Your children may hold this investment account for up to 30 years, so you want to choose a financial institution that comes highly recommended. If you have a community contributing to your child's education, keep track of all contributions. The preferred method is by asking contributors to deposit into an account you open on your child's behalf.

Education Savings Account: Avoiding Taxes On Distributions

Related Articles
  1. Retirement

    Don't Forget The Kids: Save For Their Education And Retirement

    Retirement and education financing are the two most important planning items for taxpayers.
  2. Managing Wealth

    Education Savings Account Tutorial

    This comprehensive guide goes through what an Education Savings Plan is and how to set one up, contribute to it and withdraw from it.
  3. Financial Advisor

    Why Coverdell ESAs May Trump 529 Plans

    Coverdell ESAs still trail 529 plans in popularity by a wide margin due to their low contribution limits. But these accounts can be a viable alternative.
  4. Managing Wealth

    529 Plan Tutorial

    This comprehensive guide goes through what a 529 plan is and how to set one up, contribute to it and withdraw from it.
  5. Taxes

    Clearing Up Tax Confusion For College Savings Accounts

    Put your kids through school without being hounded by the tax man.
  6. Retirement

    Analyzing IRA And ESA Statements

    Learn how to read and verify 5498 and 5498-ESA reporting your retirement-account contributions.
  7. Taxes

    Tax-Smart Ways To Help Your Kids/Grandkids Pay For College

    Learn about plans and accounts that allow you to efficiently save for your child or grandchild’s education while shielding the savings from the IRS as much as possible.
  8. Investing

    Top 7 Mistakes To Avoid On Your 529 Plan

    A 529 can go a long way to easing the burden of college education, as long as you start saving as soon as possible after your child is born.
  9. Trading

    How To Teach Your Child About Investing

    Find simple and easy instructions on how to introduce your kids to the stock market.
  10. Retirement

    Retirement Plan Tax Form 5329: When To File

    Read this if you've taken early distributions or owe excess-contribution or excess-accumulation penalties.
Trading Center