What is a 529 plan?

Most states operate 529 plans, which allow families to invest and grow savings tax-deferred and then later withdraw their savings, tax-free, if used toward qualified K-12 and college expenses. Depending on the state, some plans also offer state tax deductions, matching grants or other benefits.

Alternatively, you could consider a prepaid tuition plan, which enables you to purchase units or credits at participating schools for future tuition. This type of 529 plan is only available in some states or through the Private College 529 Plan for select private schools

What else should I know about 529 plans?

If you withdraw money for other purposes (for instance, if your child doesn’t attend college or you need the money for other expenses), you’ll generally pay income tax and a 10 percent penalty on earnings.

Investment options are limited to those offered by the plan sponsor, similar to employer-sponsored retirement plans, and the ability to make investment changes is restricted.

What is a Coverdell ESA?

Coverdell Education Savings Accounts (ESAs, previously called education IRAs) allow you to make contributions to a tax-advantaged investment account. Funds in these accounts grow tax-free and are tax-free when withdrawn for K-12 or college education expenses before age 30. ESAs also offer increased flexibility. Investment options are virtually limitless, and you can make changes at any time.

What else should I know about Coverdell ESAs?

Contributions are limited to $2,000 a year per child. You’ll be subject to the same taxes and penalties as a 529 plan if the funds aren’t used for eligible expenses. Coverdell ESAs are only available for certain income levels, so you’ll need to check to see if you fall within the limits.