A Coverdell is a tax-sheltered account for education costs from kindergarten through college
A Coverdell Education Savings Account (also called an ESA) is a savings account where money grows without being taxed, as long as you use it to pay for education. Unlike a regular savings account at your bank, a Coverdell is specifically designed to hold money for school expenses — and the government rewards you for using it that way by not charging you tax on the growth.
The key difference from other education savings tools is that a Coverdell covers education at any level. You can use it for private elementary school tuition, high school fees, college, or even graduate school. You can also use it for K-12 expenses like tutoring, computers, and school supplies — not just college like some other education accounts do.
You open a Coverdell through a bank, brokerage, or investment company, much like opening a regular savings account. You choose what to invest the money in — savings, stocks, bonds, or mutual funds — depending on how much risk you want to take and how long until you need the money.
Key Takeaways
- A Coverdell is a tax-free savings account for education expenses from kindergarten through graduate school, not just college.
- You can contribute up to $2,000 per child per year, and the money grows without being taxed as long as you use it for education.
- You choose how to invest the money — in savings, stocks, bonds, or mutual funds — through the financial institution where you open the account.
- If you withdraw money for non-education expenses, you pay income tax on the growth plus a 10 percent penalty, so it works best when you are confident about future education costs.
How much you can contribute each year
The annual contribution limit is $2,000 per child per year. This means if you have two children, you can put $2,000 into each child's account in the same year — $4,000 total. The limit applies to all contributions combined, so if a grandparent contributes $1,000 to a child's Coverdell, you can only add $1,000 more that year.
The contribution limit resets on January 1 each year. You can contribute any amount up to $2,000 as long as the child is under 18 years old (with a few exceptions for children with special needs). Once the child turns 18, you can no longer add new money to their account, though the money already there can stay and keep growing.
There is an income limit for who can contribute. If you earn above a certain amount (the limit varies by year and filing status), you cannot contribute the full $2,000. The income limits are higher if you are married and file jointly than if you file as a single person. You can check the current year's limits on the IRS website or ask your bank when you open the account.
What counts as an education expense you can pay for
Education expenses are broader than many people expect. Tuition and fees are the obvious ones, but you can also use Coverdell money for room and board if the student is at least a half-time student at an accredited school. Books, supplies, equipment, and computers all count. So do tutoring, test prep courses, and special needs services.
For K-12 students, you can use the money for private school tuition, which is one of the biggest advantages of a Coverdell over other education savings accounts. You can also pay for uniforms, transportation, and extended school day or school year programs.
The expense has to be for the child whose name is on the account. You cannot use one child's Coverdell to pay for another child's school costs, though you can transfer the money to another child's account if you need to (this is called a rollover).
How the tax benefit works
The money you put into a Coverdell is not tax-deductible — you contribute after-tax dollars, just like with a regular savings account. But the growth is tax-free. If you put in $2,000 and it grows to $2,500, you do not pay tax on that $500 gain. And when you withdraw the money to pay for education, you do not pay tax on any of it.
This is different from a regular savings account, where the interest you earn is taxed as income each year. Over time, especially if the money sits for many years, the tax savings can be significant.
The tax-free withdrawal only applies if you use the money for education. If you withdraw money for something else, you pay income tax on the growth plus a 10 percent penalty. So if your account grew by $500 and you withdraw it for a non-education expense, you owe tax on that $500 plus 10 percent of it as a penalty.
What happens if the money is not used for education
If your child does not go to college or does not need all the money in the account, you have options. You can transfer the remaining balance to another family member's Coverdell — a sibling, cousin, grandchild, or even a parent or grandparent if they are pursuing education. The transfer does not count as a withdrawal, so there is no tax or penalty.
You can also leave the money in the account until the child turns 30. After that, you must withdraw it. Any money left after age 30 is subject to the 10 percent penalty and income tax on the growth, unless you transfer it to a family member's account first.
Some families use a Coverdell for K-12 expenses and then transfer the remaining balance to a college fund for a younger sibling. This strategy lets you use the tax benefit across multiple children and multiple education levels.
Coverdell versus other education savings accounts
The main competitor to a Coverdell is a 529 plan, which is also tax-free for education but has higher contribution limits and covers college and graduate school only (not K-12 in most states). A 529 also allows you to change the beneficiary more easily if a child does not attend college.
A Coverdell is better if you plan to use the money for private K-12 school, because 529 plans do not cover that in most states. A Coverdell is also simpler to manage — you control the investments yourself, whereas some 529 plans are managed by the state and offer limited investment choices.
A 529 is better if you want to save more than $2,000 per year per child, because the contribution limits are much higher. A 529 is also better if you are not sure whether the child will use the money for education, because the penalty for non-education withdrawals is lower.
How to open a Coverdell
You open a Coverdell through a bank, brokerage firm, or investment company — the same places where you might open a regular savings account or investment account. Common providers include Fidelity, Vanguard, Charles Schwab, and most major banks.
You will need the child's Social Security number and your own tax identification number. You will also choose how to invest the money — whether to keep it in a savings account earning interest, or to buy stocks, bonds, or mutual funds. If you are not sure what to choose, ask the provider what options they offer for conservative investors or for people saving for near-term expenses.
There is no federal form to file to open a Coverdell, but you will report the account on your tax return each year if you contribute to it. The financial institution will send you a form (Form 5498-ESA) each year showing what you contributed.
Frequently Asked Questions
Can I open a Coverdell for a grandchild?
Yes. Anyone can open and contribute to a Coverdell for a child, as long as the child is under 18 and you have their Social Security number. Grandparents, aunts, uncles, and family friends can all contribute. The $2,000 annual limit applies to all contributions combined, regardless of who makes them.
What happens if I withdraw money and do not use it for education?
You owe income tax on the growth plus a 10 percent penalty. For example, if you contributed $2,000 and the account grew to $2,500, withdrawing it for a non-education expense means paying tax on the $500 gain plus 10 percent of that $500. The penalty is waived if the child receives a scholarship covering the education expense.
Can I move money from a Coverdell to a 529 plan?
Not directly. You would have to withdraw the money (triggering tax and penalties if not used for education) and then contribute it to a 529. However, you can transfer a Coverdell balance to another family member's Coverdell without tax or penalty, which is often a better option.
Do I have to use the money by a certain age?
The money must be withdrawn by the time the child turns 30. You can transfer it to another family member's Coverdell before that important date to avoid the penalty. After age 30, any remaining balance is subject to income tax and a 10 percent penalty on the growth.
Can I use a Coverdell for online school or homeschooling?
Yes, as long as the program is accredited. You can use Coverdell money for tuition, books, supplies, and equipment for accredited online schools and homeschool programs. Check with your provider about what documentation they need to verify the school is accredited.