Thinking about saving for college? Know your options before you make the leap, why save for college?
There is an issue rampant around the world. Not just in US, that the cost of a Best College Savings Plans education is ever-rising. It is becoming more and more difficult for people. To get into a reputable college or university. It is becoming ever more difficult for lower-class and even majority of middle-class citizens. To get inside a college without some scholarship. Pulling a lot of favors or taking risky loans. Saving for your child’s tertiary education is fast becoming a fact of life. Thankfully, there are a number of investment opportunities. To help you manage some of those expenses. These opportunities come with an array of choices. Choosing the right one can be an education in itself. Knowing the options before you decide where to invest your money. Can help you make the most of your child’s college years.
A Savings Snapshot
More and more people are being drawn towards college savings plans as the time passes. There are several plans available to accomplish that. And all these plans have a measure of uniqueness to them. The 529 Plans are sponsored by the state. They offer tax-deferred earnings. And income tax-free withdrawals for a wide variety of qualified education expenditures.
A Cover dell Education Savings Account (ESA) is a different plan. With several offers that have similar benefits to a 529 Plan. However, it has different income and contribution limits. Another plan such a plan is a UGMA/UTMA account. Which can be used for the purpose of saving for college among other things. The unique thing about this plan is that UGMA/UTMA have no contribution limits. They allow you to put away a capped amount of tax-reduced funds for your child. All the while giving them full control of the money once they come of age. You could invest the money in a Trust for the Benefit of a Student too. Like stated above, there are no contribution limits and fewer restrictions. Which is a plus point. However, the negative point remains that there are no tax advantages either.
Types of College Savings
1) UGMA and UTMA Custodial Accounts
Putting money aside or investing it in a Best College Savings Plans. Solely for your kids’ education could set them on the road of a lifetime of savings. You can set aside funds for your children. With the Uniform Gift to Minors Act (UGMA). And the Uniform Transfer to Minors Act (UTMA) custodial accounts. These accounts will allow you to make investments on your children’s behalf. You can easily make investment decisions. And withdrawals as needed to cover expenses related directly to them. That is of course until they reach the legal age of majority in your state. When that happens, control of the assets will transfer over to them.
Like other forms of income for minors. The education saving accounts also take advantage of the so-called kiddie tax. Every year, a certain amount invested or earned could be completely free from federal income tax at the child’s income tax rate. While the annual income over a certain amount is taxed at your rate. The amount which is taxed under the kiddie-tax is reliant on the child’s age among other factors. It also has to be proven whether the income is earned or unearned. Also, you should be aware that contributing more than $14,000 annually could trigger tax hikes for you.
Several Important Considerations
There are several other important considerations to take. If you are planning to apply for an opening plan for a UGMA or UTMA:
- You can cash the funds early. If they were to be used as to pay for a genuine benefit of your child. This usually includes pre-college educational expenditures. Such as tutoring, private school or buying expensive equipment and books.
- These accounts allow investments in the regular stocks, bonds, ETFs and mutual funds.
- In several US states, once the child reaches the legal age of majority. The ownership of assets transfers over to them. While you can certainly hope as well as advise them to spend the money wisely (such as on college). Legally there is no need for them truly heed your advice. Since the control has been relinquished by you.
- The funds in a particular package cannot be transferred to other children. Only the nominee will be their beneficiary. And has the right to use them as they wish.
- These accounts can be considered an asset of children themselves. Therefore, they may have a negative impact on a financial aid application.
- If your child already has a high level of income from other sources. Like investments, the kiddie tax advantage could be negated without having to take full advantage of it. It especially applies if the on come exceeds 14000$ annually.
- Contributions under such packages are essentially considered as gifts. Even if you may be controlling them. The assets will still belong to your child.
- You can withdraw the money. And use it to pay for genuine pre-college expenses like tutors, private school etc.
- The account could potentially decrease your taxes in terms of annual investment income. As well as lower your estate by using the annual gift tax exclusion.
- The funds in the account might have a negative impact on financial aid applications.
- Money will go to your child. When they become legal adults. Thus allowing them to use it however they wish.
- Any child who is not yet a legal adult. Can have a custodial account set up for them by any adult.
- There are no contribution limits. However, larger gifts can trigger a taxable event for the contributor.
2) Cover dell Education Savings Accounts (ESA)
It is named after a Senator Coverdell. Who championed it in Congress. ESA is a custodial account that covers qualified education expenses. Beginning from elementary through Best College Savings Plans. Or other potentially higher education pursuits.
You can easily put money in a Coverdell ESA now. And pay educational-related expenses later absolutely tax-free.
A Coverdell Education Savings Account (ESA) helps you invest for a child’s future. Educational expenses – from elementary school through post-secondary. You have the option of investing in a broad variety of stocks, bonds, mutual funds and ETFs.
A Coverdell ESA also includes some unique benefits for children. Who might need special attention, whether due to physical or mental issues.
Due to its income restrictions as well as maximum yearly contribution. A Coverdell ESA is best suited for you if:
- In 2018, your Modified Adjusted Gross Income (MAGI) was $95,000. Or less for single filers; to $190,000 or less for joint filers. These income limits let you make the full $2,000 annual contribution. You can make contributions of less than the full amount. If you are a single filer with MAGI between $95,000 and $110,000. Or a joint filer with MAGI between $190,000 and $220,000.
- When you first set up an account. The person who is to be named as beneficiary. Must be either under 18 or a special needs beneficiary.
- The amount you are permitted to contribute depends entirely upon your Modified Adjusted Gross Income (MAGI). Moreover, you can set up more than one Coverdell ESA for one child. However, the combined contributions to all accounts cannot exceed $2,000 per year.
- The funds deposited into the account are not tax-deductible. But they do have the potential to grow tax deferred.
- Money withdrawn is called a distribution. It is federal income tax-free when used for qualified educational expenses. Some common examples of qualified educational expenses are; books, tuition, supplies, room and board etc. Elementary and secondary (even private) school expenses may also be qualified.
- If the distribution is for non-qualified education expense, it will be taxable. And subject to an additional 10% penalty. If no exception applies then there may also be a state tax penalty.
- If the beneficiary has no special needs. The account must be closed when the beneficiary reaches age of 30.
- Account is considered the beneficiary child’s asset for financial aid.
- The beneficiary must be under age of 18. Or must be a special needs beneficiary when the account is opened. No further contributions are permitted under ESA after age 18. Unless it is for a special need’s beneficiary.
- The account must be designated as a Coverdell Education Savings Account when it is created. It must meet certain requirements designated by it.
3) 529 Plans
For college savings, 529 savings plans give you tax advantages, flexibility. And also allows for significant contribution amounts. The funds can eventually be used for several higher education purposes. A 529 plan is a great way to save for your children’s future education.
529 plans are sponsored by the state. They are not sponsored by federal government. However, that is not cause for much worry. If your residence changes to another state. You do not have to live in that state to invest in their 529 Plan.
And no matter which state plan you choose. A 529 offers a slew of similar multiple savings and tax incentives, including;
- Earnings have the possibility to grow tax-deferred. Although contributions are not deductible on your federal tax return.
- Withdrawals are Federal income tax-free. If used for qualified higher education expenses.
- Contributions of up to $14,000 (in tax year 2015) are allowed. Without incurring federal gift tax.
- Compared to a normal ‘gift’, your 529 contribution leaves your estate. But that does not mean it leave your control. The account owner decides when withdrawals can be made and for what reason. They can even change the beneficiary.
529 plan is Suitable For;
- Paying for tuition, books, room and board, equipment. And many other qualified higher education expenses at eligible institutions.
- Eligible institutions include four-year colleges, two-year colleges. Technical and vocational schools and U.S. graduate schools. (However there are some overseas graduate schools included too).
- The account owner (called the participant) maintains control of the assets. Regardless of the age of the student.
- If you are thinking of going back to school. You can set up a 529 plan for yourself.
- Anyone can contribute in a 529 plan. Including friends, family or yourself.
- It has no income restrictions.
- Many states offer additional benefits to their residents. For using their state’s 529 savings plan.
- Any growth or earnings in your account is tax-exempt. If used for higher education.
- The only tax reporting required is upon withdrawals (Form 1099-Q).
- In tax year 2015, you can contribute up to $14,000 a year for single filers. $28,000 for a couple to each beneficiary without gift tax consequences.
- In tax year 2015, you can contribute, as an alternative, a lump sum of up to $70,000 ($140,000 for married couples filing jointly) every five years free from gift taxes.
- Maximizing tax-free growth potential specifically for Best College Savings Plans. Or other post-secondary educations including graduate school and technical school.
- Account owners who want flexibility and control of assets.
- Maximizing contributions.
- Students of any age, which includes those who for any reason are career changers.
- Grandparents and other family members to create an educational legacy for a child while removing assets from estate tax.
- No age restriction.
- Any US resident can join.
- There are no income restrictions for making a contribution.
- The beneficiary must have a Social Security number or tax ID.