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Education Funds - 529 vs. Savings Account

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   posted: May. 16, 2008 @ 1:50a
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Want to start up a Education Account for my son and am deciding between just a regular savings account & a 529 fund.

529 fund seems to make sense because of the tax benefits, but I'm not a big fan of the limited investment options and the fact that you can only take it out for education. Ideally, you'd be able to save it for education, but I'm just thinking "what if" we need the money for something else. A savings account gives more flexibility in terms of investing and what you can use it for, downside being that there's no tax benefit.

I'd appreciate any advice or input from the fatwallet community. I'm in California if that helps in determining options.
Edit by Moderator: Thank you for your participation. Please note that there is also discussion about this topic Here.

Message edited by: FatWallet moderator on 2008-05-16 11:05:41 CDT
   posted: May. 16, 2008 @ 1:50a

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   posted: May. 16, 2008 @ 5:48a
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How long of a time period are you looking at? There is a 10% penalty for not using the money for education so if you plan on making more than the penalty tax the 529 is a no brainer however if your kid is 18 and would start college this fall it doesn't neccessarilly make sense especially if you aren't sure he is going to school at this point.

Also you can use any state's 529 plan so that can open up some more options.

Keep in mind that you should max out your retirement before trying to pay for your kids college because there are many loans for college but there aren't any for retirement.

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   posted: May. 16, 2008 @ 6:55a
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You can invest in anything you want in an ESA ("education IRA") and still get most of the tax benefits, plus broader permitted expenses (like, you can pay for pre-college educational expenses). There are income limits, and the money must be withdrawn by a certain age (unlike with a 529), but, if you have money left over, you can transfer it to a 529. There is an annual contribution limit, though, which limits its usefulness.
chimeer said:There is a 10% penalty for not using the money for education so if you plan on making more than the penalty tax the 529 is a no brainer however if your kid is 18 and would start college this fall it doesn't neccessarilly make sense especially if you aren't sure he is going to school at this point.The penalty is only on earnings. If I contribute $100,000 to a 529 plan, it grows to $120,000, and I withdraw the whole thing and never spend a dime on education, the penalty is $2000. That's a very good tradeoff as long as the money will probably be used for qualified education expenses - it doesn't need to be a sure thing to be a good deal.

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   posted: May. 16, 2008 @ 7:03a
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Consider also I-bonds. (Visit treasurydirect.gov for full info).

With I-bonds the money remains your money. It doesn't have to be spent on education, but if it is spent on education, it is tax-free.

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   posted: May. 16, 2008 @ 9:47a
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LH2004 said:You can invest in anything you want in an ESA ("education IRA") and still get most of the tax benefits, plus broader permitted expenses (like, you can pay for pre-college educational expenses). There are income limits, and the money must be withdrawn by a certain age (unlike with a 529), but, if you have money left over, you can transfer it to a 529. There is an annual contribution limit, though, which limits its usefulness.

This is the route I go. The first $2,000 each year goes into a Coverdell ESA. It allows you to invest in pretty much anything you could in an IRA (no short selling or uncovered options, but pretty much anything else your brokerage firm deals in). Beyond that, I contribute to a 529.

I haven't looked into I-bonds. I'll have to go do a little reading, now...

update: related sites and threads for using i-bonds for higher education expenses:
Savings bonds (EE/I/TIPS) for children
529 account vs. I Bonds
Section 10 of IRS Publication 970

Message edited by: cclyde on 2008-05-18 17:33:48 CDT
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   posted: May. 16, 2008 @ 11:44a
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We are in the exact same situation. Don't really like the inflexibility for a 529 plans. So with the 2k a year cap on the Educational Saving Account (ESA) means you can't put that much into it since we are starting from year 1 we probably have time to put a good chunk of change in there. And since Vanguard made sense for our Roth IRA it seemed a fine place for her ESA. Although I would be interested in finding more liquid savings accounts that offered ESAs. Also we will probably open a UGMA sometime in the next year or so that will hopefully earn something but keep her in the tax free bracket (under $850 a year).

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