Save for Private School Tuition with a Coverdell ESA

Editor’s note: This is follow-up to my interview with Woodberry Forest financial aid director and independent tax preparer Mike Szydlowski: Is Private School Tax Deductible? Your Tuition Questions Answered. This post from Mike comes out of his “interest in sharing this type of information with my colleagues who work in financial aid as well as with parents trying to enroll their children in Independent Schools.”

I wrote earlier in the year about Coverdell ESA’s being made permanent- Saving for Private School Tuition: Coverdell ESA’s made permanent. Not quite. It’s more complicated than that. Here’s Mike:

Coverdell Education Savings AccountsOne type of 529 savings plan applies to K -12 schools, the Coverdell Education Savings Account (CESA). CESAs are not very well known but I believe schools should be getting the word out about them….anything we can do to help families plan and save for tuition.

Coverdell Education Savings Accounts (CESAs) allow families to save $2,000 per year (not pre-tax), the return on investment grows tax free and distributions are tax free if the money is used to pay K-12 tuition, room and board, tutoring, school uniforms, transportation and computer access.

On the extension of CESA’s- it is my understanding that CESAs were extended for 5 years until Dec 31, 2017, unfortunately Congress has not acted to increase the annual contribution limit.

CESAs do have the following income limits: single filers may contribute the full $2,000 per year if their Modified Adjusted Gross Income* (MAGI) is below $95,000, they cannot contribute if their MAGI is above $110,000; for married filing jointly the limits are full $2,000 contribution if MAGI is below $190,000, no contribution if income is above $220,000.

If the parent’s cannot contribute because of these income limits they could always give the $2,000 to their parent’s (the child’s grandparents) and the grandparents could establish the CESA assuming the grandparents had MAGI below the limits above.

Coverdell ESAs allow almost any investment including stocks, bonds, and mutual funds, while 529 plans only allow a choice among a number of state run allocation programs.

The rules for investments allowed in ESAs are the same as those for IRAs.

Balances in a Coverdell ESA must be disbursed on qualified education expenses by the time the beneficiary is 30 years old or given to another family member below the age of 30 in order to avoid taxes and penalties; there is no age limit for other 529 plans.

*For most taxpayers MAGI is the same as their Adjusted Gross Income (AGI) which can be found on line #37 on the 2012 Form 1040 and/or line #21 on the 2012 Form 1040A. However, to calculate MAGI a taxpayer must add back the following items to their AGI:

  1. foreign earned income exclusion
  2. foreign housing exclusion
  3. foreign housing deduction
  4. exclusion of income for bona fide residents of American Somoa and/or Puerto Rico
Mike Szydlowski

Mike Szydlowski, serves as Woodberry Forrest School's Director of Financial Aid, and works as an independent tax preparation and financial planning professional.

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