529 vs. Coverdell: What's the Difference?

Two of the most popular ways to save for college are the 529 College Savings Plan and the Coverdell Education Savings Account. While both will help you save for your child’s future education, they offer different benefits, and one may suit your needs far better than the other. Getting the facts about 529 plans and Coverdell accounts can help you make an informed decision for your family.

Learn more about the differences between the two types of plans, such as how much you can save and where you can spend the money.

What's the Difference Between a 529 Plan and a Coverdell Account?

Plan Basics

A 529 plan is designed specifically for college savings. In many ways, it functions similarly to a retirement account, offering tax-free growth and tax-free withdrawals when it is time to pay for your child’s education. If the money you are withdrawing is for educational expenses, there are no unexpected fees or penalties to deal with. For most families, this is the most flexible and affordable vehicle for their savings.

The Coverdell is also designed for education expenses and offers tax advantages. The amount you can save each year is limited though, and this plan may not be flexible enough to meet your needs. In specific circumstances, though, a Coverdell is an excellent savings tool; learning about this savings vehicle ensures you cover all your bases as you research your college saving options.

Contribution Limits

The annual contribution limits are different for the Coverdell and the 529 plan.

A 529 plan has contribution limits, but they are fairly high. Gifts of $15,000 per year are allowed for tax year 2021, though amounts over that limit could be subject to a gift tax. There is also a limit to the overall value of the plan, which is between $235,000 and $529,000. It depends on the specific state in which you have your 529 plan.

The Coverdell also has an annual cap on contributions: You can only invest $2,000 a year in your plan. That may seem like a lot now, but if your income goes up over time and as college draws near, you’ll reach that limit very quickly.

Qualified Expenses

Traditionally, 529 plan savings could only be used at higher education institutions for qualifying education expenses. Qualifying education expenses include tuition and other related costs, from rent (in many cases) to required books and supplies.

Under the 2017 Tax Cuts and Jobs Act, 529 plans can now be used to pay up to $10,000 per year, per student, for private K-12 education as well.

However, as of 2021, not all U.S. states have conformed to the new tax laws. If your state hasn't made 529 accounts eligible for use for private K-12 education, you could face tax penalties for using the funds in this way.

A Coverdell plan has traditionally been available for use for both private K-12 education or higher education. If your child attends a private elementary, middle, or high school, then this plan has some advantages while they are in their pre-college years, no matter where you live.

Savings Guidelines

A 529 plan can be used for your first child—and then for the next in line as they head to college. This flexibility prevents you from saving “too much” or not being able to use all your savings. Since you, the parent, own the plan, there are no age limitations.

Additionally, the 529 plan supports and even encourages gifts from friends and family. Gifts under $15,000 are exempt from the gift tax for 2021, so your savings can grow even more quickly.

For a Coverdell, all saving for a specific child needs to be done by that child’s 18th birthday, even if they are still in high school at the time. There are also strict (and ever-changing) income guidelines to qualify to save using this vehicle.

The Coverdell limitations do not make it suitable for getting others involved, so you can’t easily accept gifts or allow others to contribute to your child’s education.

Taxes, Penalties, and Fees

Both the 529 plan and the Coverdell offer tax advantages for your savings; those savings are similar and based on your overall financial outlook. The more significant differences between the two plans are more important to the decision-making process than taxes. Note that some states have additional tax deductions or credits for college savings plans.

Your 529 plan principal can always be withdrawn without penalty, and the interest earned can be used penalty-free, provided you are spending the money on qualified education savings. If you withdraw for non-qualified expenses, there is a 10% penalty on the growth. You can get around this by withdrawing strategically, but it is important to know before you decide.

You can withdraw your Coverdell funds for schooling—either college or private school—without penalty. It needs to be used for the child designated as the beneficiary, though, and must meet the qualifying expenses guidelines.

Both 529 plans and Coverdell plans have fees; these fees will vary depending on the actual plan you choose. See the fees for any specific plan you are considering before you decide.

Which Is Right for You?

The type of plan that is right for you and your family depends on your individual circumstances.

A 529 plan may be right for you if you're planning to use the account for college or higher education expenses, if you have multiple children you'd like to use the account for, and if you think you'd like to contribute more than $2,000 per year. It also may be the better option if you'd like friends and family to be able to make contributions.

A Coverdell plan may be right for you if you want to use the account for primary or secondary education expenses, especially if you live in one of the states where 529 plans can't be used for this purpose. It also could be a good choice if you have one child who needs to use the account and if you don't plan on contributing more than $2,000 per year.

The Bottom Line

While both 529 plans and Coverdell plans have the same goal in mind—saving for education—the limitations on contributions for the Coverdell may make it less popular for some families.

Choose the Coverdell if you need to save for private school or in some specific situations, but the 529 is far more flexible and allows for gift-giving, making it an ideal option for most families.