How to Decide If You Should Choose an Education IRA or a 529 Plan
Savings for your children's college education should be started sooner rather than later. Tuition costs grow rapidly, and parents have only 18 years to save up for this milestone expense. To help parents save toward this goal, the federal government has two types of tax-advanced college savings plans: 529 plans and education IRAs, which are now called Coverdell education savings accounts.
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Instructions
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Decide how much you'll save each year. Coverdell accounts are limited to $2,000 in annual contributions while 529 plans can have much larger deposits. The limits on 529 plans vary from state to state; some states allow up to $300,000 in annual contributions. Most 529 plan users look to the gift tax exclusion rules instead and contribute no more than $130,000 over five years if married and no more than $65,000 over five years if single.
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Examine the 529 plan available for your state. Each state approves a certain 529 plan provider, but individuals can still invest in plans from other states. Investing in the plan your state sponsors gains you a state tax break on contributions that you don't get when using plans from other states. Other states' plans may have better investment options or lower costs than your state's plan, so you'll need to weigh the potential investment performance available in other states' plans against the tax break generated by using your home state's plan.
Coverdell plans are federal plans and are the same from state to state. -
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Weigh your options carefully. Most savers will find that their state-sponsored 529 plans are the best choice because of the tax breaks and contribution flexibility. Coverdell plans appeal most to those who can only save small amounts or frequently travel from state to state.
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If you want more advice, ask your accountant or financial adviser, who can tailor advice to your specific tax situation and financial situation.
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Just start! Regardless of which plan you choose, you probably have 18 years or less to save, so just get started.
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Tips & Warnings
Both Coverdell and 529 accounts allow earnings to grow tax free, and distributions for qualified educational expenses are received tax free.
Distributions for non-educational expenses are subject to a 10 percent Internal Revenue Service penalty.
