10. What tax strategies are available to provide opportunities to plan for my children’s education?

The Education Savings Account is a trust established to pay qualified education expenses for a designated beneficiary. Although the contributions to the account are nondeductible, all distributions from the account are tax-free if used for qualified education expenses. Therefore, the earnings on the invested funds are not taxed. The maximum amount that can be contributed to all ESA’s set up for any one beneficiary is $2,000 per year. The contributions can be made by any individual, subject to income limitations of the donor. Qualified education expenses include elementary and secondary education expenses as well as higher education expenses.

Also available are Qualified Tuition Programs (often referred to as 529 plans). These programs are maintained by individual states. There are two types of plans: prepaid programs whereby contributions are used to prepay the tuition of a designated student, and savings account programs whereby contributions are made to an account established to pay the qualified higher education expenses of a student. In the savings account program money is invested by the state, or state agency, you have chosen to use for your plan. There are no limits to the amount that can be contributed to a plan for any year (however, be aware of potential gift tax consequences if you contribute more than $12,000 a year). As in the ESA, you do not claim a deduction for the amounts contributed. The only exceptions is if you are an Oregon resident and you participate in Oregon’s 529 plan, you are entitled to deduct up to $2,000 on your Oregon return ($4,000 on a joint return). When the funds are withdrawn from the account by the student, none of the distribution is subject to tax as long as the funds are used to pay qualified expenses. For this program qualified expenses include tuition, fees, book supplies, equipment and room and board (limited to “reasonable expenses”) for students enrolled at least half-time in a degree program.

Another option is to establish a custodial account in the child’s name to which you deposit funds. A child can have interest dividend income of up to $850 per year before needing to pay tax or file a tax return. However, in a custodial account, the funds are generally fully available to the child upon reaching the age of 18 and can be withdrawn by them for any purpose at that time.

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