Many grandparents want to help their grandkids with college. But they have common dilemmas and questions…
What account type is best?
What if they decide not to go to college?
What investments can I use?
How much can I contribute?
Let’s tackle the issue of using the funds for non-college expenses first.
If a grandparent wants to save for grandkids with the flexibility that the funds can be used for whatever the grandchild wants (including non-tuition expenses), one option is to use traditional college savings vehicles if one of the grandkids decided not to go to college just change the beneficiary on the account to a grandkid who DOES go to college or technical school.
But that kind of feels unfair, right?
A better solution may be NOT use the traditional college savings accounts and instead use a UTMA (Uniform Transfer to Minors Act) or regular brokerage account so that there is flexibility in this regard. Keep in mind that If the funds in a traditional college savings account (529 or Coverdell) are not used for qualified tuition expenses, the investment gains are both taxed and have a 10% penalty. This may be enough of a disincentive to steer clear of traditional college savings accounts.
For those who want to encourage grandkids to be college-bound and are reasonably certain that the funds will be used for qualified tuition, the choice comes down to the 529 or Coverdell.
The 529 college savings account is similar to a 401(k)s in regard to the number of investment choices, there is a smaller selection. The contribution limits for 529 accounts are significantly more than for the Coverdell, so those looking to fund more per year per grandchild will want to go the 529 route. The amount that you can contribute per year to each beneficiary is built around the annual gift exclusion amount, currently $15,000 per year. One advantage of the 529 account is that you could frontload five years worth at the inception if desired.
The Coverdell college savings account is similar to a self-directed IRA account in regard to the number of investment choices, nearly unlimited. The disadvantage of the Coverdell is that only $2,000 per year per beneficiary can be contributed. That might not dissuade a lot of grandparents who don’t intend to contribute more than this amount per year, and for those who are investment savvy, they may enjoy the greater menu of choices.
Assuming that all distributions out of each account type (520 and Coverdell) are used for qualified education expenses, all of the growth on these accounts is tax-free when withdrawn. Only after tax dollars can be contributed into each account type.
If you have questions about saving for grandkids, please contact me.