What Is
a Coverdell Education Savings Account (CESA)?
The Coverdell Education Savings
Account is a nondeductible account
that features tax-free withdrawals for a very specific purpose---a child's
education
expenses.
At first glance, the CESA may
look similar
to traditional and Roth IRAs. Higher education distributions are also
permitted from these accounts, but while qualified higher education
distributions from a traditional or Roth IRA are only penalty tax free,
the same distributions from a CESA are penalty free and federal income tax
free. Consult your tax or legal professional for further information
regarding state or local income taxes.
Am I Eligible to Contribute to an Education
IRA?
You are eligible
if your modified adjusted gross income (MAGI) does not exceed certain
limits. There are no
requirements that a contributor have earned income or be under a certain
age.
Contributors can also be non-individuals like corporations or tax-exempt
organizations. These entities have no income restrictions for
qualifications.
How Do
I Open a CESA?
See any of our
IRA representatives. We will explain the nature of these accounts
and help you complete the necessary forms.
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How
Much Can I Contribute?
The total
aggregate contribution into one or more CESA's on behalf of a child is
$2,000 a year. As a contributor, your allowable contribution depends
on your MAGI. Consult your bank, tax professional, or other agency
regarding the MAGI limits.
How Does the Law
Define a "Child"?
A child is defined as a person
who is under the age of 18. The child's eligibility for CESA contributions
ends the day after the child attains age 18. Children with special needs
are not subject to this restriction. A child is also known as the
designated beneficiary of a CESA. What if I Want to Save for More Than One
Child?
The Law allows a
contributor to deposit the maximum allowable contribution into a separate CESA's
for as many children as desired.
If I Can't
Contribute the Maximum, Can Someone Else Also Contribute?
Yes, there can be more
than one contributor, provided the total contribution doesn't exceed the annual
allowable maximum.
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Do I Pay Taxes on the
Earnings?
No and neither does the child
(provided the money is used for qualified higher education expenses). That's the best part
of the CESA. You cannot take a tax deduction for any of the contributions
that you make to a CESA. However, when the beneficiary is ready to
make his or her withdrawal for school, there will be no taxes due on any
of the interest that your money has earned.
Who Has
Control of the Assets?
Each CESA
will have a responsible individual, usually the child's parent or legal
guardian. That individual has control of the assets until the child
reaches the age of majority, and in some cases, even after that date.
What is a
Nonqualified Distribution?
A
nonqualified distribution is any distribution other than an expense
distribution for elementary, secondary or higher education. When a non
qualified distribution is taken, a ratio of contributions and earnings is
withdrawn. The earnings portion is then subject to taxes and a 10 percent
penalty tax. Distributions made on a account of death, disability,
or scholarship are not subject to the 10 percent penalty tax. However, the earnings portion of such distributions is taxable.
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