1. What is an Coverdell Education Savings Account?

The Coverdell Education Savings Account (CESA) is a nondeductible account that features tax-free withdrawals for a very specific purpose—a child's higher education expenses.

These accounts were formerly known as Education IRA's, and at first glance, a CESA may look similar to traditional or Roth IRA's. Higher education distributions are also permitted from these accounts, but while qualified higher education distributions from a traditional or Roth IRA are only penalty tax free, the same distributions from a CESA are penalty free and federal income tax free. Consult your tax or legal professional for further information regarding state or local income taxes.

2. Am I Eligible to Contribute to an Education IRA?
You are eligible if your modified adjusted gross income (MAGI) does not exceed certain limits (see tables under (3) below.

There are no requirements that a contributor have earned income or be under a certain age.

Contributors can also be nonindividuals like corporations or tax-exempt organizations. These entities have no income restrictions for qualifications.

3. How Much Can I Contribute?
The total aggregate contribution into one or more CESA's on behalf of a child is $2,000 a year. As a contributor, your allowable contribution depends on your MAGI. The MAGI limits are:

4. How Does the Law Define "Child"?
A child is defined as a person who is under the age of 18. The child's eligibility for CESA contributions ends the day after the child attains age 18. Children with special needs are not subject to this restriction. A child is also known as the designated beneficiary of a CESA.

5. What if I Want to Save for More Than One Child?
The law allows a contributor to deposit the maximum allowable contribution into seperate CESA's for as many children as desired.

6. If I Con't Contribute the Maximum, Can Someone Else Also Contribute?
Yes, there can be more than one contributor, provided the total contribution does not exceed the annual allowable maximum.

7. Do I Pay Taxes on the Earnings?
No and neither does the child (provided the money is used for qualified higher education expenses). That's the best part of the CESA. You cannot take a tax deduction for any of the contributions that you make to an CESA. However, when the beneficiary is ready to make his or her withdrawal for school there will be no taxes due on any of the interest that your money has earned.

8. Who Has Control of the Assets?
Each CESA will have a responsible individual, usually the child's parent or legal guardian. That individual has control of the assets until the child reaches the age of majority, and in some cases, even after that date.

9. What Is a Qualified Higher Education Distribution?
A qualified higher education expense generally can be for tuition, fees, books, supplies, and equipment required for the enrollment or attendance at an eligible higher education institution. Basically, an eligible higher education institution in an area vocational school or a college or university. Room and board (generally the school's posted room and board charge, or $2,500 per year for students living off campus and not at home) are also eligible expenses if the student is enrolled at least half time.

Distributions must be made during the year in which the education expense occured. If distributions exceed the educational expenses, the additional amount withdrawn is a nonqualified distribution.

10. May CESA Assets Be Applied to Elementary or Secondary Education Expenses?
Yes. CESA assets may be used to pay qualified elementary and secondary education expenses. This includes kindergarten through grade 12 administered by a school. The school, as determined under state law, may be a public, private, or religious school.

Qualified elementary or secondary educational expenses, which may be paid tax free with CESA assets are generally similar to those for qualified higher education. Unique to qualified elementary and secondary expenses are those expenses for the purchase of certain computer technology, equipment, or Internet access and related services if such technology, equipment, or services are to be used by the beneficiary and the beneficiary's family during any of the years the beneficiary is in school. (This does not include expenses for software designed for sports, games, or hobbies unless the software is predominately educational in nature.)

11. What Is a Nonqualified Distribution?
A nonqualified distribution is any distribution other than an expense distribution for elementary, secondary, or higher educaton.

When a nonqualified distribution is taken, a ratio of contributions and earnings is withdrawn. The earnings portion is then subject to taxes and a 10 percent penalty tax. Distributions made on account of death, disability, or scholarship are not subject to the 10 percent penalty tax. However, the earnings portion of such distributions is taxable.

12. Can I Move Funds From My Traditional or Roth IRA Into an CESA?
Unfortunately, no. You can, however, roll funds over from one CESA into a second CESA established for the same child.

You can also roll CESA assets into a CESA for a different designated beneficiary if he/she is a member of the same family (as defined by the law). That way, if a child decides not to pursue his or her education, the account can be transferred to a relative who does.

13. How Do I Open a CESA?
See any of our IRA representatives. We will explain the nature of these accounts in more detail and help you complete the simple forms necessary to establish a CESA for a child.

Please contact us if you have questions or wish to establish an IRA.

This information © 1997 Bankers Systems, Inc.