Coverdell Education Savings Accounts: Transferring Accounts and Changing Beneficiaries
Just as in a Section 529 plan, you save in a Coverdell ESA for a day in the future: the day your child attends an educational institution that has some real dollar costs attached to it. Of course, for some, this day never arrives, and the money languishes in the account until the magic mandatory distribution to the designated beneficiary at age 30. For some, this may not be such a bad thing " you may feel that you saved the money for this particular person, and by the time that person has reached age 30, she is mature enough to manage the funds herself.
If you don't belong to that specific group and the thought of handing over all that money to that particular beneficiary sticks in your craw, you may want to explore whether you can change to a new designated beneficiary, taking the old one right out of the equation.
The designated beneficiary of a Coverdell ESA is the deemed owner of the assets in the account; however, he or she may not be the person named in the initial account-opening documents as being responsible for making the decisions regarding the account. If you're the named responsible adult, you're in luck, and you can initiate the transfer.
You may change the designated beneficiary on the same account as often as you like without incurring any tax or penalty; however, if you choose to roll one account over to another Coverdell account, changing the beneficiary at the same time, you're limited to one such tax-free rollover of the funds in that particular account in any given 12-month period.
Qualifying Relationships For Successor-designated Beneficiaries
In setting up a Coverdell account for your original beneficiary, you transfer all right, title, and interest in the money you gift into the account. Now, as the responsible adult named on the account, you're proposing taking that money away from your beneficiary. If you could do that without restriction, that would mean that you retained real control over the money. You don't, so you can't transfer to a new beneficiary without following the rules.
And the rules are quite simple. The new beneficiary must be related to the original beneficiary (not to you) in one of the following ways:
- A lineal descendent, such as a child, grandchild, or stepchild
- A lineal ancestor, including the beneficiary's mother, father, grandmother, grandfather, stepmother, or stepfather
- A brother, sister, stepbrother, or stepsister of the original beneficiary
- A niece or nephew (but no stepniece or stepnephew)
- An aunt, uncle, or first cousin of the original beneficiary (but no step- aunts, uncles, or cousins)
- A mother-in-law, father-in-law, sister-in-law, brother-in-law, daughter-in-law, or son-in-law
- The spouse of any of the people listed above, or of the original beneficiary
Maximum Age Of The Successor Beneficiary
All assets in Coverdell ESAs need to be totally distributed once the designated beneficiary reaches age 30. However, you do have the option of transferring the balance of the account to a new beneficiary just before that date, keeping the account open and operating well beyond the 30th birthday of the original designated beneficiary. So long as the new beneficiary is under 30 and falls within the acceptable range of family relationship to the original beneficiary, you can effect the transfer. If you choose a new beneficiary who is under age 18, you may even begin to make contributions into the account again.
Here's how it works: You begin to fund a Coverdell account for the first designated beneficiary, and continue making contributions until you're forced to stop when she reaches age 18. Suppose that this beneficiary then receives a full-paid scholarship and she doesn't need the funds, but you have another child, or even grandchild, who might benefit from the money you've saved. Instead of waiting and distributing the entire amount to the original designated beneficiary when she's 30, you choose to change beneficiaries and go with the younger child. Until that child reaches 18, you may make contributions into the account to the extent allowable by the governing rules.
Additional transfers of this nature can continue to be made using the same account, so long as the new beneficiary always is under 30 years old and is related to the original beneficiary in the manner described in the section "Qualifying relationships for successor-designated beneficiaries," earlier in this chapter. Whoever is the beneficiary when the account makes distributions is the person who pays income tax on the earnings, if any tax needs to be paid. Whoever is the beneficiary when excess contributions are inside the account is the one who must pay the excise tax on the excess contributions. And whoever is the beneficiary when the account finally terminates is the one who receives the final distribution and pays income tax on whatever income remains inside the account.