Good morning Joe,
You did quite a bit of research. Your research is absolutely correct and also most of your assumptions. I will try to make it real short so you understand the flow and the implications on your tax return.
The contributions you make to Educational Accounts work in a similar manner as a IRA account. Since the accounts are used for educational purposes, you can take the deduction in the year(s) of contribution and also the earnings accumulate tax free. However, as you said if you use if for any other purpose other than education then they trigger a taxable event. You get the deduction only once, either in the year of contribution (if you have an account, as in your case) or in the year of actual expenditure. If you are allowed to deduct the contributions and also the expenses then it will be double-dipping as you mentioned. However, if you incurr any additional out of expenses as you indicated (that you will upto $1,000) they are deductable. I live in NC and the rules are similar as in MD and will have similar implications as your federal return.
I believe, even though you would not get any benefits in the coming years, you made a right decision to fund educational accounts for your kids. Some of the reason(s) why I say that is that
1) Your AGI was not the same as it is now when you started funding, that reduced your taxable income and also your income taxes.
2) Your AGI currently is at a level where the actual expense deduction you will incur may phase out or limit the deduction, plus even if you qualify for a full deduction, the maximum deduction that you may get is $6,000
3) Peace of mind that you would not have to worry about your kids education.
However, it would have been in your favor if your AGI was lower than you indicated earlier.
I wish you and your kids Good Luck. BTW, your original post is on my blog under another post, and thanks for your kind work. I will post this entire email on my blog.
A S Mehdi
You did quite a bit of research. Your research is absolutely correct and also most of your assumptions. I will try to make it real short so you understand the flow and the implications on your tax return.
The contributions you make to Educational Accounts work in a similar manner as a IRA account. Since the accounts are used for educational purposes, you can take the deduction in the year(s) of contribution and also the earnings accumulate tax free. However, as you said if you use if for any other purpose other than education then they trigger a taxable event. You get the deduction only once, either in the year of contribution (if you have an account, as in your case) or in the year of actual expenditure. If you are allowed to deduct the contributions and also the expenses then it will be double-dipping as you mentioned. However, if you incurr any additional out of expenses as you indicated (that you will upto $1,000) they are deductable. I live in NC and the rules are similar as in MD and will have similar implications as your federal return.
I believe, even though you would not get any benefits in the coming years, you made a right decision to fund educational accounts for your kids. Some of the reason(s) why I say that is that
1) Your AGI was not the same as it is now when you started funding, that reduced your taxable income and also your income taxes.
2) Your AGI currently is at a level where the actual expense deduction you will incur may phase out or limit the deduction, plus even if you qualify for a full deduction, the maximum deduction that you may get is $6,000
3) Peace of mind that you would not have to worry about your kids education.
However, it would have been in your favor if your AGI was lower than you indicated earlier.
I wish you and your kids Good Luck. BTW, your original post is on my blog under another post, and thanks for your kind work. I will post this entire email on my blog.
A S Mehdi
Email Received from Joe
Mr. Mehdi:
Posting on your website is terrific. I'm glad that you are offering the free advise. It is difficult, however, it place my questions in the little square box on your site. Feel free to place this email on the website if you'd like to be able to share my questions with the general public. I noted that I cannot find my original posted questions you've answered below on the website. Where do they reside? Can they be seen on your website?
I don't think I told my story well enough in my original posting, so I will try to elaborate here.
As I think I mentioned, my son is going to college as a new freshman this fall in 2007. I am funding his tuition with a prepaid MD college plan (IRS calls them a Qualified Tuition Program). As I've since read (after posting questions to your site), I am unable to claim any education deductions on my federal taxes with the funds I used to pay into the MD prepaid college trust (see section 8 of Publication 970). The reason is that it is considered an investment where the dividends and gains are tax free, so I cannot write off the fees(bummer) even though they are used to pay the tuition (a qualified expense). I would like for you to confirm this, however.
I funded the prepaid college trust with monthly payments, and also I paid off the last $3000 or so of the plan with proceeds from my son's Education IRA. These days, an education IRA is referred to as a Coverdell Education Savings Account.
Coverdell ESAs are not really IRAs, other than that the dividends and gains are tax free until they are cashed in, and they are normally cashed in when the beneficiary (my son) goes to college. The money taken out, if used for education expenses, are tax free. It has nothing to do with retirement.
The complication I'm dealing with is that I transferred the Coverdell funds to the MD prepaid (529) college trust, which is allowed.
When I sent you the earlier email, I was hoping that I could get an education deduction utilizing either the Hope or lifetime learning credit. But from what I've read, since I paid for his tuition with the 529 prepaid plan, I get no deduction. As an added note, his room and board and books are paid by one of his other relatives, so I get no deduction for those fees either.
There are some special fees that I have had to pay to the school which the pre-paid trust will not cover. I am hoping I can include those as write offs, but I will have to check whether I make too much money to do that. Also, those write offs may only total less than $1000, so the impact might be minor.
The only remaining question I really have (if you confirm what I assume to be true as correct regarding no write off of prepaid monies), is what about my state income tax write off? I don't believe you are located in MD, but maybe you have a way of checking on this. It might be similar in your state.
MD allows a write off of up to $2500 per tax year per account on fees paid to the pre-paid trust. I started the plan late enough that I have been paying much more than $2500 for each of my children each year, but the max I have been writing off is $2500 as allowed. The additional money is supposed to be able to be written off in later years until the total amount (about $20,000 or so) is fully written off.
My question has to do with whether I can write off all $20,000 for my son over time if part of the monies paid came from a Coverdell ESA? My suspicions are that this would be considered double-dipping by the state since the dividends from the Coverdell ESA were tax free. I'm guessing that I would only be able to deduct yearly those monies which were paid separately from the Coverdell funds (totaling, as I said before, about $3000 of the $20,000).
My question on the state income tax may be too specialized for you to address. But the other question (on whether I can write off any of the money paid to the college from a pre-paid college trust as part of a Hope or Lifetime Learning credit) should become a fairly common question for Accountants now that Baby-Boomers like myself are seing their kids go off to college. But it seems that Publication 970, section 8 is clear that no write off is allowed. I'm beginning to think that the prepaid plan wasn't such a great idea afterall.
See what you can come up with to help me.
Joe
Posting on your website is terrific. I'm glad that you are offering the free advise. It is difficult, however, it place my questions in the little square box on your site. Feel free to place this email on the website if you'd like to be able to share my questions with the general public. I noted that I cannot find my original posted questions you've answered below on the website. Where do they reside? Can they be seen on your website?
I don't think I told my story well enough in my original posting, so I will try to elaborate here.
As I think I mentioned, my son is going to college as a new freshman this fall in 2007. I am funding his tuition with a prepaid MD college plan (IRS calls them a Qualified Tuition Program). As I've since read (after posting questions to your site), I am unable to claim any education deductions on my federal taxes with the funds I used to pay into the MD prepaid college trust (see section 8 of Publication 970). The reason is that it is considered an investment where the dividends and gains are tax free, so I cannot write off the fees(bummer) even though they are used to pay the tuition (a qualified expense). I would like for you to confirm this, however.
I funded the prepaid college trust with monthly payments, and also I paid off the last $3000 or so of the plan with proceeds from my son's Education IRA. These days, an education IRA is referred to as a Coverdell Education Savings Account.
Coverdell ESAs are not really IRAs, other than that the dividends and gains are tax free until they are cashed in, and they are normally cashed in when the beneficiary (my son) goes to college. The money taken out, if used for education expenses, are tax free. It has nothing to do with retirement.
The complication I'm dealing with is that I transferred the Coverdell funds to the MD prepaid (529) college trust, which is allowed.
When I sent you the earlier email, I was hoping that I could get an education deduction utilizing either the Hope or lifetime learning credit. But from what I've read, since I paid for his tuition with the 529 prepaid plan, I get no deduction. As an added note, his room and board and books are paid by one of his other relatives, so I get no deduction for those fees either.
There are some special fees that I have had to pay to the school which the pre-paid trust will not cover. I am hoping I can include those as write offs, but I will have to check whether I make too much money to do that. Also, those write offs may only total less than $1000, so the impact might be minor.
The only remaining question I really have (if you confirm what I assume to be true as correct regarding no write off of prepaid monies), is what about my state income tax write off? I don't believe you are located in MD, but maybe you have a way of checking on this. It might be similar in your state.
MD allows a write off of up to $2500 per tax year per account on fees paid to the pre-paid trust. I started the plan late enough that I have been paying much more than $2500 for each of my children each year, but the max I have been writing off is $2500 as allowed. The additional money is supposed to be able to be written off in later years until the total amount (about $20,000 or so) is fully written off.
My question has to do with whether I can write off all $20,000 for my son over time if part of the monies paid came from a Coverdell ESA? My suspicions are that this would be considered double-dipping by the state since the dividends from the Coverdell ESA were tax free. I'm guessing that I would only be able to deduct yearly those monies which were paid separately from the Coverdell funds (totaling, as I said before, about $3000 of the $20,000).
My question on the state income tax may be too specialized for you to address. But the other question (on whether I can write off any of the money paid to the college from a pre-paid college trust as part of a Hope or Lifetime Learning credit) should become a fairly common question for Accountants now that Baby-Boomers like myself are seing their kids go off to college. But it seems that Publication 970, section 8 is clear that no write off is allowed. I'm beginning to think that the prepaid plan wasn't such a great idea afterall.
See what you can come up with to help me.
Joe
