Individual retirement accounts

You can take advantage of special government incentive programs that were originally designed to satisfy retirement needs. Now, individual retirement accounts, or IRAs, can help you finance your child's education and reduce the amount of your income that is subject to tax.

 

Coverdell Education Savings Accounts (ESAs)

Coverdell ESAs (formerly known as Education IRAs) are savings accounts set up to pay the qualified education expenses of a designated beneficiary. Contributions to an ESA are not deductible; however, amounts deposited in the account grow tax free until withdrawn.

 

Individuals can contribute a maximum of $2,000 for one beneficiary each year. These funds may be withdrawn tax free to pay qualified education expenses (elementary, secondary, or postsecondary) for the beneficiary.

 

Similar to other IRA benefits, funds withdrawn for other purposes are subject to a 10% withdrawal tax in addition to the taxpayer's normal tax rate.

 

Roth IRAs

If you're single and have less than $95,000 in adjusted gross income, or if you're married with income below $150,000, you can deposit up to $3,000 per person into a Roth individual retirement account or if you are 50 or older, $3,500. The money that you put into a Roth IRA grows tax-free. When your child reaches college age, you can withdraw your initial contribution tax-free. This contribution is not deductible.

 

Early withdrawals from IRAs

Families also can continue to make penalty-free early withdrawals from traditional IRAs, Roth IRAs, and SIMPLE IRAs to cover qualified higher education expenses, if the student is either the taxpayer, the taxpayer's spouse, the taxpayer's child or grandchild, or the taxpayer's spouse's child or grandchild. Qualified withdrawals are subject to income tax at the taxpayer's normal rate, but are not subject to the 10% early withdrawal tax.