Coverdell ESA (Education Savings Account)

If you’re a parent who wants to save money for your child(ren)’s education, you might want to consider opening a Coverdell ESA for each child.

For each child under the age of 18, you can contribute up to $2,000 a year to a Coverdell ESA. Contributions are not tax-deductible but the money in the account does grow tax-free and qualified distributions are also tax-free, kind of like a Roth IRA.

Qualified distributions include using the money for postsecondary tuition, fees, books, supplies, and basic room and board or $2,500 per year for off-campus away-from-home students. The Coverdell ESA can also be used to pay for K-12 expenses like tutoring, computer equipment, room and board, uniforms, and 529 contributions. We will talk about 529s in depth another time.

If the money is used for non-qualified education expenses (getting your nails done, watching a movie, Disneyland tickets…), you will have to pay taxes and penalties.

The balance of the account has to be completely distributed when the beneficiary (your child) reaches the age of 30. But if you don’t want to give your 30 year old child the remaining balance, you can roll it into another Coverdell ESA for a family member that’s related to them (i.e. their sibling who is still in school, their child/your grandkid, etc.).

A couple other things to note:

  • If you’re married and your modified AGI is over $220,000, you are considered phased out (i.e. you can’t make any contributions).  If your modified AGI is more than $190k but less than $220,000, you can make a contribution but not the full $2,000.  If you’re single, the limits are $95,000 and $110,000.
  • The annual deadline to make this contribution is when your tax return is due for that year (not including extensions).  For example, if you want to make a 2016 contribution, you have until April 15, 2017 to do so.

Good Personal Finance Reads

Murdering Your Consumer Debt (Millennial Revolution) – Great advice on how to tackle your consumer debt!  I don’t have consumer debt, but if I did, I would definitely follow his advice.

Marrying Your Equal Is Better Than Marrying Rich (Financial Samurai) – I can definitely see the validity of this statement in my line of work.

Guide to IRA Contribution Limits, Deadlines and Deductions (Get Rich Slowly) – A helpful article on IRAs.  This would’ve came in handy for my 2013 return.

 JL Collins’ Stock Series – Basically everything you need to know about investing.  I haven’t decided if I agree with 100% of what he says but Mr. Collins does a solid job of breaking down investing into to simple, easy to understand terms.

Rich People Problems

Ever wonder what kind of money problems multimillionaires have?  I’ll let you in on a little secret…

They have the same problems as everyone else, except on a grander scale.

  • they spend more than they earn – sometimes hundreds of thousands more
  • they can’t retire when they want – some of them will never be able to retire
  • they worry about how to pay for their kid’s college education (on top how to pay for a private elementary, middle and high school that costs them at least $20,000 a year per kid)
  • they have to take out second mortgages to fund major purchases like home remodels and their children’s weddings
  • they have credit card debt

How do I know all this?  Because these are the people I work with daily.

Why am I telling you this?  To show you that the answer to most of your financial problems is not earning, inheriting or winning more money.

You know what will fix your financial problems?

  • Spending less than you earn
  • Saving for retirement (early and often)
  • Saving up for major expenses (cars, home remodels, weddings) instead of taking out additional loans

For my clients who can retire comfortably, those are always the top 3 traits they all have in common.

Social Security Changes Part 3 – Who Should File and Suspend?

I haven’t had time to draft my final post for Social Security but I still wanted to share the information before the file and suspend deadline, which is this Friday, April 29th.

Here is an article that does a pretty good job of summarizing who qualifies for this strategy:

Who Should File-And-Suspend For Social Security Benefits By The April 29 Deadline?

Social Security Changes Part 2 – Social Security Claiming Strategy

Last week, I gave a simple example of how Social Security benefits work.  Today I’ll explain the Social Security claiming strategy that many couples have used to increased their combined Social Security benefit.  The strategy has 2 parts: Part 1 is called File & Suspend and Part 2 is called Restricted Application for Spousal Benefits.

File & Suspend must happen first.  In my previous example, Wife was only allowed to take that extra spousal benefit because Husband started taking his personal benefit already.  He took it at age 66, giving up the 8% growth that he could’ve gotten on his benefit each year he waited till age 70.  With the file & suspend strategy, Husband does NOT need to start taking his benefit in order for Wife to start taking a spousal benefit.  All Husband would have to do is call the Social Security office and tell them that he wants to file and immediately suspend his benefit so that his wife can start taking a spousal benefit.  Once this step is done, Wife can now do step 2, which is call the Social Security office and tell them she would like to file for a restricted application for spousal benefits.

Like the previous example, she now gets to collect a spousal benefit (half of Husband’s personal benefit), while continuing to delay her own benefit and earning that 8% growth each year.

When Husband turns 70, he has delayed taking his benefit as long as Social Security will allow and will start taking his now increased benefit.  When Wife turns 70, she will switch from taking her spousal benefit to taking her own (also increased) benefit.  Together, they will each be collecting their maximum benefit in addition to having collected a spousal benefit for 4 years.

Sadly, this strategy will go away starting April 29th of this year (2016) with only a handful of exceptions.  Come back next week to find out who gets grandfathered in and what steps they’ll need to take before the April deadline to secure this benefit!

Social Security Changes Part 1 – How Social Security Benefits Work

The Budget Act that Obama signed late last year eliminates a major Social Security claiming strategy currently available to retirees.

To understand what’s going to change, you should first know how Social Security benefits work. It’s a complicated system so I think the best way to understand it is by seeing it played out in an example:

Husband and Wife are both currently 66 years old.  Since they have reached their full retirement age, they can start collecting their Social Security benefits.  However, if they choose to delay taking their benefits, it will grow by 8% each year until they reach age 70 (that’s the latest you can delay till).

But let’s just say Husband decided to take the money now (at age 66) because he needs it to pay for expenses.  By him taking his benefit, he activates the spousal benefit, which now becomes available to Wife.  The spousal benefit equates to half of his benefit.  So if he is collecting $2,000/month, she gets to collect a spousal benefit on top of that of $1,000/month.

The nice thing about this is, if they don’t need more than that combined total of $3,000 a month right now, Wife can still delay taking her own personal Social Security benefit, letting it grow that 8% a year.  Once she turns 70, she will switch from taking a spousal benefit to taking her increased personal benefit.  (Unfortunately, you can’t take both.)

That was a very straightforward and simple example of how claiming Social Security benefits works.  There are, of course, a ton of other more complicated scenarios like if they were different ages, if they were divorced, if they were single instead of married, etc.  But, one thing at a time.

Next week, I will talk about the awesome claiming strategy some people have been using to increase their combined benefit even more.  And the week after that, I’ll explain how the Budget Act changes this strategy and which people are the exceptions to the rule.