Jo Willetts, EA
Director, Tax Resources
Published on: September 04, 2019
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Back in 2017, when the Tax Cuts and Jobs Act (TCJA) was passed, it included a largely overlooked provision. But that provision has huge implications for parents of all school-age children.
Most people have heard of education savings plans – the popular 529 Plan and the lesser-known Coverdell Education Savings Account. In 2017, the TCJA expanded 529 Plans to cover education costs from K through 12, in addition to trade schools, college, and graduate school. This matched a provision that was always part of the Coverdell ESA.
This change is a very big deal.
It means that millions of people can now pay education expenses tax-free with income generated by a 529 Plan. It also means there are now fewer differences than ever between a 529 Plan and a Coverdell ESA.
So let’s look at the similarities between the two vehicles. A 529 Plan and a Coverdell ESA are both investment accounts that act like a Roth IRA, allowing money to grow tax-free until it’s withdrawn. And when it’s withdrawn to pay qualified education expenses, it’s still tax-free. Neither permit you to deduct contributions on your federal return, but depending on where you live and the 529 Plan you have, you may be able to claim a deduction on your state return.
But there are also important differences. While anyone can contribute to a 529 Plan, many states impose a $300,000 max value cap, at which point there can be no more contributions unless the allowed amount increases. Plus, annual contributions over $14,000 may be subject to federal gift taxes. While there is no limit on the amount of money in a Coverdell ESA, contributions are limited to $2,000 a year and contributors’ annual income must be below $110,000 ($220,000 filing jointly). The other major difference is in your investment choices. A Coverdell ESA allows you to invest in a variety of stocks, bonds, and mutual funds, while a 529 Plan restricts you to a few state-approved funds.
Regardless of which type of account you have, however, if the money isn’t used, the account custodian can always roll over the funds to a new, younger beneficiary tax-free.
About the Author
Jo Willetts, Director of Tax Resources at Jackson Hewitt, has more than 25 years of experience in the tax industry. As an Enrolled Agent, Jo has attained the highest level of certification for a tax professional. She began her career at Jackson Hewitt as a Tax Pro, working her way up to General Manager of a franchise store. In her current role, Jo provides expert knowledge company-wide to ensure that tax information distributed through all Jackson Hewitt channels is current and accurate.