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What are the rules for Coverdell education savings accounts?


A Coverdell education savings account is a particular type of savings vehicle that allows you to invest for the education costs of a child or other beneficiary. Coverdell ESAs offer tax-deferred savings opportunities.

You can contribute up to $2,000 per beneficiary, assuming you meet the income requirements. You can even make a contribution as late as April 15 of the following year, and it will be credited to the current taxable year. Your contributions aren't tax deductible, but any distributions used to pay qualifying education expenses (which include elementary and secondary school expenses) will be completely tax free. (Generally, distributions are tax free if they are not more than the beneficiary's education expenses for the year.) But, if a distribution from a Coverdell ESA isn't used to pay qualifying education expenses, the portion of the distribution that represents earnings will be included in the beneficiary's taxable income and is also subject to an additional 10 percent penalty.

To make a full contribution to a Coverdell ESA, single filers must have a modified adjusted gross income (MAGI) of less than $95,000, and joint filers must have a MAGI of less than $190,000. 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.

Generally, the beneficiary of a Coverdell ESA can be anyone under age 18. Once that person reaches 18, you can no longer make contributions on his or her behalf. The exception is if the beneficiary is a special needs child, in which case you can still contribute to the account after the beneficiary reaches age 18.

You can set up separate Coverdell ESAs for different beneficiaries, a key advantage if you have more than one child or grandchild. You can even roll a Coverdell ESA over into another Coverdell ESA for either the same beneficiary or a family member of that beneficiary. However, no more than $2,000 a year can be contributed to all Coverdell ESAs for the benefit of any one beneficiary. For example, if you and Grandpa each open a Coverdell ESA for your child, your combined contributions for the year can't exceed $2,000. Also, any funds remaining in the account when the beneficiary turns 30 must be distributed at that time (unless the beneficiary is a special needs individual), resulting in income tax and possibly a penalty on the earnings portion of the distribution.