October Tax Strategy of the Month
Do you have clients with children?
One often overlooked tax strategy you can use for clients is the Coverdell Education Savings Account (ESA)— a trust or custodial account for a designated beneficiary to be used for qualified education expenses.?
How does it work?
Contributions to a Coverdell ESA are made with after-tax funds and are not deductible, but earnings are not taxed if withdrawals meet certain requirements.??
Coverdell Education Savings Accounts must be held by a qualified institution, such as a bank or trust, and contributions can be made by individuals, corporations, and trusts.?
What are the contributions?
Annual contributions from individuals cannot exceed IRS limits per beneficiary, which are based on adjusted gross income.?
Organizations such as corporations or trusts, however, don’t have an income threshold for contributions.??
Accounts must be established, and contributions made, prior to the beneficiary's 18th birthday.?
Excess contributions will result in tax penalties, similar to excess contributions for traditional IRAs.
All contributions to a Coverdell ESA must be made in the form of cash and must not exceed the annual limits per beneficiary. In addition to that, the account funds cannot be invested in life insurance, nor be combined with other property, with exception of common trust or investment funds.
What are the qualified distributions?
Qualified distributions include postsecondary, elementary, and secondary education expenses; however, certain conditions must be met for these expenses to qualify for tax-free withdrawals.
All distributions must be made by the beneficiary’s 30th birthday. In case of unused funds, a transfer to a qualified family member’s account is allowed.?
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For beneficiaries with special needs, certain exceptions apply.?
Why recommend this tax strategy?
Investments made to a Coverdell Education Savings account are not tax deductible.?
Nonetheless, earnings on contributions grow tax-deferred, and any qualified distributions are tax-free.?
This is why it can be a great alternative to complement other education savings strategies.?
Investment options are also more flexible than other education savings alternatives.
Just keep in mind that contribution limits are low, and the contribution window is shorter when compared to alternative education savings accounts.?
Also, excess contributions can be difficult to identify if different individuals and organizations are contributing.
Use tax planning software to find more tax strategies
A Coverdell ESA is just one of over 1,500 tax strategies you can find inside Corvee.??
Firms are using this technology to quickly calculate savings for clients in minutes.
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