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What’s the difference between an Educational IRA and a 529 Plan?

Educational IRA vs. 529

An Educational IRA, known as a Coverdell Education Savings Account (ESA), and a 529 Plan are both tax-advantaged savings options for educational expenses, but they differ in several important ways:

1. Contribution Limits

  • Coverdell ESA: Annual contribution is capped at $2,000 per beneficiary.
  • 529 Plan: Contribution limits are generally much higher, often exceeding $300,000, depending on the plan and state.

2. Use of Funds

  • Coverdell ESA: Funds can be used for both K-12 education and college expenses, covering tuition, books, supplies, and even certain tutoring services.
  • 529 Plan: Primarily designed for college expenses, but recent tax law changes allow up to $10,000 per year to be used for K-12 tuition.

3. Income Limitations

  • Coverdell ESA: There are income restrictions for contributors. Individuals earning more than $110,000 (or couples earning more than $220,000) may not contribute.
  • 529 Plan: No income restrictions apply to contributions, making it more accessible to a broader range of contributors.

4. Control and Investment Options

  • Coverdell ESA: Offers more flexibility in investment choices, allowing account holders to choose from various stocks, bonds, or mutual funds.
  • 529 Plan: Investment options are generally limited to a selection provided by the state or plan administrator, often with age-based portfolios that adjust risk over time.

5. Ownership and Control of Funds

  • Coverdell ESA: If funds aren’t used for education, the account must be transferred to the child when they turn 30.
  • 529 Plan: The account owner retains control over the funds indefinitely, and there’s no age limit for the beneficiary to use the funds.

6. Tax Benefits

  • Both accounts grow tax-free, and qualified withdrawals for education expenses are also tax-free.

In summary, the Coverdell ESA offers flexibility in investment options and covers a broader range of K-12 expenses. At the same time, the 529 Plan has higher contribution limits and no income restrictions and is more commonly used for college savings.