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Children and Money
The Education IRA |
The Taxpayer Relief Act of 1997 created a special
IRA that allows you to invest up $500 per child each year to pay for the costs of higher
education. As long as you meet certain requirements, the beneficiary can be your child,
grandchild, or any other designated individual under the age 18. Although an Education IRA
is held in a child's name, a parent or guardian is actually in control of the account --
maintaining responsibility until all assets have been dispersed.
Contributions
Contributions made to an Education IRA are phased out for donors with modified adjusted
gross incomes (AGI) that meet the following schedule:
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Full |
Partial |
None |
Single |
$95,000 |
$95,000-$110,000 |
$110,000 |
Married |
$150,000 |
$150,000-$160,000 |
$160,000 |
Withdrawals
While contributions to an Education IRA are not tax deductible, distributions are tax-free
as long as you use the money to pay for qualified higher education expenses (for a
beneficiary still under age 30). Tuition, books, fees, and other supplies generally count
as education expenses.
If the money is not used for educational purposes within 30 days of the beneficiaries'
30th birthday, all earnings in the account will be dispersed, taxed as ordinary income,
and subject to a 10% tax penalty. If the beneficiary doesn't attend college, assets of the
account may be transferred directly to another family member.
Advantages
- You can contribute up to $500 a year for each
beneficiary.
- Earnings grow tax-deferred.
- Withdrawals are tax-free as long as you use the
money to pay for higher education expenses.
- Flexibility. Any qualifying individual can
contribute to an Education IRA on the behalf of another beneficiary, not just their own
dependents.
The Education IRA can be rolled over to another family member (brother, sister, son,
daughter, stepbrother, stepsister, niece, nephew, etc.) if the beneficiary doesn't use the
money to attend college. Any unused portion of the account can also be rolled over to
another Education IRA.
Tip: If you're younger than age 30 and plan on having kids, you can get a
big head start on saving for your child's education. Simply open an Education IRA in your
name, contribute to it annually (until you're age 30), and roll it over to your new son or
daughter when they're born.
- A parent or guardian named on the account is
responsible of the IRA until it's completely withdrawn.
Disadvantages
- When you consider the future costs of a college
education for your child, $500 a year may not be enough. Any delay in opening an account
for your child is lost money -- and a lot of time to make up.
- In the year that you take distributions from an
Education IRA, you become ineligible for other college savings programs or tax credits
such as a prepaid tuition plans, the Lifetime Learning Credit, or the Hope Scholarship. A
student's ability to get financial aid may be limited by the assets that have accumulated
in their Education IRA.
The Education IRA is a great college savings tool.
If used right, it can mean the difference between having to seek financial assistance and
affording college on your own. As with any IRA, make sure you've done plenty of research
before committing to a plan.
Children Calculators:
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• How much will it cost to
raise a child?
• What's it worth to reduce
my spending?
• Should my spouse work too?t
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