With the cost of private K-12 education topping $12,000 a year on average nationwide, many parents wonder, is private school tuition tax deductible? Unfortunately, the answer is no on federal income tax returns. Yet parents do have some options to save money, most of which depend on location and income.
Nationally, two types of tax-advantaged savings plans help parents set aside money for private K-12 schooling, and there is an exception to the federal tax rule for some special needs students.
At the state level, eight states currently offer families tax relief for K-12 private school expenses and a ninth (Ohio) will begin offering breaks this year. However, higher-income families with greater tax liability often benefit more from these state measures.
“There is a key difference between saving for college and saving for K-12, which is the time horizon,” says Mark Kantrowitz, a financial aid expert and former publisher of Savingforcollege.com. “When you’re saving for college, if you start saving when the baby is born, you’ve got 17 years before you’re going to need the money. If you’re saving for K-12, you might have only five years.”
Two Ways to Save: Coverdell ESAs and 529 Plans
Families who know early on that they want to send a child to a private K-12 school may want to meet with a financial planner, accountant or education consultant to create a budget and a plan. Often, those conversations will include a discussion of saving through tax-advantaged accounts. There are two options, each with advantages and disadvantages: Coverdell Education Savings Accounts (ESAs) and 529 Education Savings Plans.
A Coverdell Education Savings Account (ESA) is a tax-deferred trust account created by the U.S. government to help families pay for education expenses. A 529 Education Savings Plan is a tax-advantaged savings plan designed to help pay for education. Originally limited to post-high school education costs, 529 plans were expanded to include K-12 education in 2017. Although they take their name from Section 529 of the federal tax code, the plans are administered by the 50 states and the District of Columbia.
A family can have both a Coverdell ESA and a 529 plan for the same beneficiary’s education expenses.
“Private school can be a big investment, but there are a number of ways to make it more affordable, including financial aid, tuition payment plans and tax-advantaged savings accounts,” says Myra McGovern, vice president of media for the National Association of Independent Schools, which represents more than 1,600 independent private K-12 schools in the U.S.
Coverdell vs. 529 Plan
Here is how the two programs compare in some key areas:
— Age requirements. 529 plans do not have age requirements for establishing the plan or for withdrawing plan funds. Coverdell ESA beneficiaries must be 18 or younger when the account is established. Coverdell funds must be used by the time a student is age 30 or taxes, fees and penalties will accompany withdrawals. These age restrictions may be waived for special needs beneficiaries.
— If your child is attending a private K-12 school because they have special education needs, you may be able to get a tax break on the tuition. The deduction requires a physician’s referral. Under certain conditions, tuition, training and tutoring costs may be deductible.
— Contribution amounts. For Coverdell ESAs, the maximum contribution per year for any single beneficiary is $2,000. For 529 plans, there is no annual contribution limit, but many parents cap annual contributions at $15,000 per year to avoid the federal gift tax. Many states limit total contributions, with recent limits ranging from $235,000 to more than $525,000.
— Income limits. Coverdell ESAs are only available to families who fall under a designated annual income level (modified adjusted gross income of $220,000 for joint filers and $110,000 for single filers this year, according to the IRS). For 529 plans, there are no restrictions on the income level of contributors. However, the investment can lose money because there are no guaranteed returns on such plans.
— Distributions. Coverdell ESAs have no limit on how much can be withdrawn annually, and the money can be used for many K-12 expenses, not only tuition. By contrast, 529 plan withdrawals are limited to $10,000 annually and restricted to tuition only.
— Tax advantages. For Coverdell ESAs, contributions are not deductible. Earnings (interest) are not taxed if distributions are used for qualified education expenses. For 529 plans, contributions are not tax-deductible for federal income tax purposes, but more than 30 states provide tax deductions or credits of varying amounts for contributions. Rules vary by state. Earnings are not taxed on the federal level.
“It pays to do some research when paying for your child’s education,” McGovern says. “A financial planner can help you determine which types of savings vehicles make the most sense for your situation.”
State Tax Relief
Some states offer families limited tax relief for K-12 private school expenses. Eight states (Alabama, Illinois, Indiana, Iowa, Louisiana, Minnesota, South Carolina and Wisconsin) now offer private school choice programs known as individual tax credits and deductions, and Ohio will begin offering them this year, according to EdChoice, a nonprofit that works to advance school choice.
Hundreds of thousands of taxpayers participate in these state-based programs each year and save from $100 to $10,000, based on the state’s program and the family’s income. Nationally, higher-income families with greater tax liability benefit more.
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EdChoice data shows big differences in participation rates. The organization doesn’t have information to explain this variation, or survey data to show whether people participating would otherwise have been able to afford private school, says Jason Bedrick, director of policy for EdChoice.
“Of course, basic economics tells us that larger scholarship sizes are more likely to help more people, and vouchers, tax-credit scholarships and K-12 education savings accounts are therefore more likely to be effective at helping a larger number of people fulfill their K-12 education preferences,” Bedrick says.
Moreover, individual tax credits don’t help lower-income families, who have little to no tax liability, unless the credits are refundable, meaning families can claim the full value of the credit as a refund on their taxes, even if they did not have a tax liability, Bedrick says.
The real tax relief comes later in the education cycle. If a child attends a college or university, private or public, education tax credits can be used to deduct the costs of tuition, books and other required supplies.
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