Saving for College: Coverdell Education Savings Account vs. 529 Plan

February 19, 2013

 If you have children, or are thinking about having children, one of the many issues you face is how to save for their college education.  The truth of the matter is that college is getting more expensive every year and the time to start saving is now.

I am currently in this boat. I have two children -- 4 and 2 years old --  so I have gone through the analysis of how to best save for their education.  There are many vehicles that can be used to fund future college expenses including the traditional investment options like a savings account and taxable investment accounts.

There are also more recent investment vehicles such as the Coverdell Education Savings Account and the 529 plan. Here is an in-depth comparison of these two options.

 

Coverdell ESA                                                                              529 plan

$2,000 annual contribution No contribution limit- over $300,000 total per beneficiary in many state plans, but any more than $13,000 ($26,000 for married couples) per year for one beneficiary triggers a gift tax obligation for the donor
Contributions are not deductible Same
Money grows tax free Same
Distributions are tax free if used to pay qualified education expenses Distributions are tax free if used to pay qualified education expenses
Balance must be disbursed on education expenses by the time beneficiary is 30 or given to another family member below the age of 30 in order to avoid taxes and penalties (unless the beneficiary has special needs) No age limit
Can use money tax free for qualified elementary and secondary school expenses Can use money tax free for eligible college expenses
If money is withdrawn and not used for eligible college expenses, then the distributions will be subject to income tax and an additional 10% penalty Same 
Can switch beneficiaries among other members of your family so if one child does not use all their savings, you can transfer balance to other child Same

 

Additional Resources -

Websites:
Saving for College

Articles:
7 Benefits of 529 Plans
What's the Difference Between Coverdell Savings Accounts vs. 529 Savings Plans
10 Questions About College Savings Plans 
Tax Credits for 529 Plan Contributions by State