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Chris Farrell May 25, 2010

Question: We have two children, a 3 year old and a new baby. Our 3 year old is already in a private preschool program, and we hope to send them both to private institutions for their K-12 education. My first question is: am I correct in saying that the Coverdell is the ONLY option for getting any tax benefit related to paying for/saving for a K-12 education?

Secondly, I have a few questions about the Coverdell: 1) I have read from you and elsewhere about the fact that many of the features (including the ones that we need) are expiring in 2010…but if Congress acts this will not be the case…is there any way to gauge how likely congress is to do anything about the expiration this year? If they are unlikely to act, it will probably not be worth it for us to set one up at this time; 2) We are slightly above the income cutoff, but I have read that we can “get around” this by creating a Uniform Gift to Minors for our children and then have them contribute to their own Coverdell; is this true? 3) In your opinion, since we will be using this money in the short term, is the effort involved with setting up the account, dealing with it at tax time etc., really worth the tax savings?

I really appreciate you taking the time to read our questions. Thank you very much for any advice you can offer! Sincerely, Abby, South Egremont, MA

Answer: Many states offer tax credits, tax deductions, and various other financial supports for private and charter school K-12 educational expenses. However, the Coverdell program is the only federal option for using a tax-sheltered education savings account that can go toward college, high school, and elementary school.

The website finaid.org has a good review of the various financial options for K-12 schooling here.

Yes, you can get around the already generous income limits for contributing to a Coverdell by creating a Uniform Gifts to Minor Act account and have the child make the contribution. (Assuming their income is under $95,000!) You can learn more about contribution complexity–but in clear explanatory language, thankfully–at the legal website Fairmark.com.

That said, I wouldn’t bother with trying to do the UGMA-Coverdell two-step until the rules are clear. As you mention, the Coverdell sunsets on December 31st, 2010. At that point, the current $2000 a year contribution limit shrinks to a maximum of $500. Even more important for you, Coverdell savings will no longer be allowed to go for K-12 schooling expenses, either. Like the 529 college savings plan, the savings will be limited to qualified college educational expenses. To be sure, you can rollover Coverdell money into a 529 plan later on, but I’m sure its not worth the time and expense right now.

What will Congress do? I don’t have any confidence in any forecast considering everything that Washington is trying to do and the vagaries of the legislative process.

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