Tax Tips & Calculators

Coverdell education savings accounts (ESAs) are tax-advantaged accounts that allow you to save money for education.

Coverdell ESA advantages are:

• The earnings are tax-free if used for qualified education expenses.
• You can use an ESA to pay for education expenses at eligible education institutions at every level of education – from kindergarten to graduate school.
• Qualified distributions are tax-free.

You can’t deduct contributions to Coverdell ESAs , so don't report them on your return.

You open a Coverdell ESA for the benefit of another person (the beneficiary), usually your child. However, the beneficiary doesn't have to be your child or even a relative.

The beneficiary usually must be under age 18 at the time of the contribution. However, the age limit is waived for certain special-needs beneficiaries. This includes individuals who require more time to complete their education because of:

• Learning disabilities
• Certain physical, mental, or emotional conditions

Rules for contributing to an education savings account are:

• You can contribute to as many Coverdell ESAs as you want. Contributions are limited to $2,000 per child per year, regardless of the number of accounts or how many people contribute.
  
  Ex: Ross is a single taxpayer with a modified adjusted gross income (AGI) of $80,000. He has 3 grandchildren and wants to set up ESAs for each of them. Also, the other grandparents of 2 of Ross's grandchildren already contributed $750 to each of the children's ESAs. Since there´s a $2,000 limit, Ross can contribute only $1,250 for these grandchildren. For the third grandchild, though, he can contribute the full $2,000.
• The $2,000 contribution limit is an overall limit on contributions per child. However:
  
  • You must contribute less if your modified AGI is more than $95,000 on a single return – $190,000 if married filing jointly.
  • If your modified AGI is $110,000 or more – $220,000 if married filing jointly – you can't make contributions.
  
  Modified AGI for this purpose is AGI plus income excluded since it's:
  • Subject to the foreign earned-income exclusion
  • Subject to a foreign housing exclusion or deduction
  • Excluded income of bona fide residents of American Samoa or Puerto Rico
• You must make your contribution by your return's due date (usually April 15).
• You can contribute to both an ESA and a qualified state tuition plan for the same child in the same year.
• When a beneficiary reaches age 30 or dies, you must roll over assets remaining in the ESA to another qualified beneficiary within 30 days. However, this doesn't apply to special-needs beneficiaries.
• If you qualify, you can claim an education credit the same year you make an ESA withdrawal.
• You can change the ESA beneficiary without tax consequences. You might want to do this if a child graduates or reaches age 30, and there's still money in the account.

The new beneficiary must be:

• A member of the same family or former beneficiary
• Under age 30 or a special-needs beneficiary at the time of the change

You can change the ESA beneficiary by 1 of these means:

• Having the trustee change the name on the account, if permitted under the plan rules
• Rolling the ESA over into another ESA of an eligible beneficiary

Eligible Educational Institutions

For ESA purposes, a postsecondary eligible educational institution must be:

• An accredited public or private institution
• Eligible to participate in U.S. Department of Education Federal Student Aid programs

Institutions include:

• College or university
• Vocational school
• Other postsecondary educational institutions
• Foreign institutions listed at www.fafsa.ed.gov

An elementary and secondary educational institution:

• Is a public, private, or religious school – as determined under state law
• Provides elementary or secondary education (kindergarten through grade 12)

Qualified Education Expenses

For ESA purposes, the definition of "qualified education expenses" depends on if the expenses are for elementary and secondary or postsecondary education.

If the ESA distribution is for a postsecondary school, these expenses qualify for the deduction:

• Expenses required for enrollment or attendance, like:
  
  • Tuition and fees
  • Books
  • Supplies and equipment
• Special-needs services for a special-needs student incurred in connection with enrollment or attendance
• Room and board incurred by a student enrolled for at least half the full-time academic workload. The costs must not be more than the greater of:
  
  • Allowance for room and board, as determined by the eligible educational institution for a particular academic period
  • Amount charged if the student resides in housing owned or operated by the eligible educational institution
• Computer technology purchases – like hardware, software, and Internet access – used by the ESA beneficiary and family during the years the student is enrolled at an eligible institution

If the distribution is for an elementary or secondary school, these expenses qualify for the deduction:

• Expenses incurred with enrollment or attendance:
  
  • Tuition and fees
  • Books
  • Supplies and equipment
  • Academic tutoring
  • Special-needs services for a special-needs student
• Expenses required or provided with attendance or enrollment:
  
  • Room and board
  • Uniforms
  • Transportation
  • Supplementary items and services, including extended day programs
• Computer technology purchases used by the child and the child's family during the years the child is in elementary or secondary school. This includes:
  
  • Equipment, like hardware
  • Software‐however,not software designed for sports, games, or hobbies, unless it´s mostly educational in nature.
  • Internet access
  • Related computer services

The amount of qualified expenses that you can use the ESA to pay for must be reduced by the amount of any nontaxable education benefits that the child receives, like scholarships or Pell grants.

Ex: Mary received a $1,000 tax-free scholarship and is also eligible for a $2,500 Pell grant. Her total expenses are $10,500. Since Mary receives nontaxable education benefits, she can only use $7,000 from her ESA to pay for qualified expenses:

$10,500 (total expenses) - $3,500 (scholarship and Pell grant) = $7,000

To learn more see IRS Publication 970: Tax Benefits for Education