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Should I open a Coverdell education savings account?

Answer:


A Coverdell education savings account can play a part in your college savings strategy, but its relatively small annual contribution limit makes it more useful as a supplement to an overall larger savings strategy.

Once a Coverdell account is open, you can contribute at any time during the year, and you even have until April 15 of the following taxable year to make a contribution for the current taxable year. In addition, contributions can be made by an entity, including a tax-exempt entity, on behalf of a selected beneficiary.

The main benefit of Coverdell ESAs is tax related. Specifically, money you withdraw to pay your child's college education expenses is completely tax free, including earnings. (Generally, distributions are tax free if they are not more than the beneficiary's education expenses for the year.) Coverdell ESAs have many favorable features:

  • You can contribute up to $2,000 per year for a selected beneficiary
  • You can use Coverdell ESA funds to pay elementary and secondary school expenses
  • You can contribute to both a Coverdell ESA and a 529 plan (prepaid tuition plan or college savings plan) in the same year for the same beneficiary
  • You can claim either the American Opportunity credit (Hope credit) or the Lifetime Learning credit in the same year you take a tax-free distribution from a Coverdell ESA (though the education expenses paid with the Coverdell ESA distribution can't be the same expenses used to qualify for the credit)

Before you consider opening a Coverdell ESA, though, you'll have to meet certain income limits. Single filers must have a modified adjusted gross income (MAGI) of $95,000 or less to make the maximum $2,000 contribution, and joint filers must have a MAGI of $190,000 or less. A partial contribution is allowed for single filers with a MAGI between $95,000 and $110,000, and for joint filers with a MAGI between $190,000 and $220,000.