Education and Health Savings Plans
Which statements are TRUE? I Distributions from a 529 plan to pay for higher education costs are not taxable II Distributions from a 529 plan to pay for higher education costs are taxable III Distributions from a Coverdell ESA to pay for qualified education costs are not taxable IV Distributions from a Coverdell ESA to pay for qualified education costs are taxable A. I and III B. I and IV C. II and III D. II and IV
The best answer is A. Contributions to both Coverdell ESAs and 529 plans are not tax deductible. Earnings build tax-deferred in both. Distributions from both, when used to pay for appropriate educational expenses, are not taxable. Coverdell ESA distributions can be used without limit to pay for all levels of education. 529 plan distributions can only be used without limit to pay for college and higher; distributions to pay for education below the college level are limited to $10,000 per year. High earning individuals cannot open a Coverdell; there is no similar restriction on a 529 plan. Coverdell ESA contributions are limited to $2,000 per child per year; 529 plan contribution limits are set by each state and are much higher.
High earning individuals can make contributions to: I UGMA Accounts II Roth IRAs III UTMA Accounts IV Coverdell ESAs A. I and III B. I and IV C. II and III D. II and IV
The best answer is A. Custodian accounts opened under either the Uniform Gifts to Minors Act (UGMA) or the Uniform Transfers to Minors Act (UTMA) can be opened by any adult for any minor, with no limitation on the income of the donor in determining whether the account can be opened. On the other hand, high earning individuals are prohibited from opening either a Roth IRA or a Coverdell Education Savings Account.
A distribution from a Section 529 Plan would be taxable if the beneficiary: A. does not go to college B. gets a full scholarship C. goes on disability D. goes to vocational school
The best answer is A. Payments from Section 529 plans made to colleges, universities, vocational schools, and any other accredited post secondary education institution are not taxable. Starting in 2018, up to $10,000 per year can be withdrawn to pay for education below the college level. In addition, refunds made because of death or disability of the beneficiary, or because the beneficiary received a scholarship, are not taxable. Distributions made for any other reason are taxable.
The maximum annual contribution to a Coverdell Education Savings Account is: A. $2,000 B. $2,500 C. $3,000 D. $4,000
The best answer is A. The maximum annual contribution to a Coverdell Education Savings Account for a single beneficiary is $2,000.
Which statements are TRUE about Coverdell ESAs? I Assets grow tax-deferred and distributions are not taxable if used for qualified educational purposes II Contributions into the account are tax deductible to the donor III Any adult, regardless of income level, can open or contribute into the account IV Unexpended funds can be transferred without tax liability to another relative in the same or younger generation as the beneficiary A. I and III B. I and IV C. II and III D. II and IV
The best answer is B. Contributions to Coverdell ESAs are limited to $2,000 per child per year and are not tax deductible. Earnings build tax-deferred and when distributions are taken to pay for qualifying educational expenses, the amount distributed is not taxed. If the distribution is not used to pay for qualifying educational expenses, then it is taxable at ordinary income tax rates. High earning adults are prohibited from opening Coverdell ESAs. Unexpended funds can be transferred without tax liability to another relative in the same or younger generation as the beneficiary
Which statement is TRUE about the tax deductibility of 529 Plan contributions? A. Contributions are generally deductible at the federal level B. Contributions are generally deductible at the state level C. Contributions are generally deductible at the state level regardless of the state in which the plan was established D. Contributions are generally not deductible at either the federal or state level
The best answer is B. 529 Plan contributions are not deductible at the federal level. However, most states that have income taxes allow a deduction for contributions made to a plan established by that state (and a handful of states allow a tax deduction for contributions made to any state's 529 plan!). This is a tax benefit of making 529 Plan contributions.
A customer has a 3-year old child and wishes to begin saving for the kid's college education using a tax advantaged investment. The best investment option to meet the customer's objective is a(n): A. zero-coupon bond investment B. age weighted 529 plan C. Coverdell ESA D. UGMA account
The best answer is B. Any of the choices offered could be used to save for a kid's college education. However, the annual accretion on a zero-coupon bond is taxable, unless the investment is held in a tax deferred account, such as an IRA. Earnings in UGMA (custodian) accounts are also taxable each year. So we have narrowed down the best choices to either the Coverdell ESA or the age-weighted 529 plan. Coverdell ESAs allow a maximum annual contribution of $2,000 per year per child (non-deductible) and grow tax-free. However, they are not available to high earning individuals (no information is given in the question about the customer's income, so this is not a consideration here). State sponsored 529 Plans allow much bigger contributions to be made. They grow tax-free as well and are not subject to income limitations. Since college is expensive, socking away more money is definitely better! Furthermore, an "age weighted" 529 plan varies the investment mix based upon the beneficiary's age - in early years weighting the investments towards growth; and in later years, when distributions are needed for college, weighting the investment mix towards income. Thus, an "age weighted" 529 plan is the best choice to meet the customer's objective.
A 529 plan is set up for a child in state A. The child attends a college in state B. Which statement is TRUE? A. The funds in the 529 Plan are not portable and can't be used to pay for college in state B B. The funds in the 529 Plan are portable and can be used to pay for college in state B C. The funds must be transferred into a 529 Plan in state B if they are going to be used to pay for college in state B D. The child must renounce his or her residency in state A and become a resident of state B in order to use the funds in the 529 Plan for college in state B
The best answer is B. As long as the funds are used to pay for college, 529 Plans are completely portable - the money can be used to pay for college in any state.
Monies that have accumulated in a Coverdell Education Savings Account that are not used by the beneficiary to pay for qualified educational expenses: A. may be rolled over into a conventional IRA without any tax liability B. may be transferred to a Coverdell Education Savings Account for a sibling that so qualifies without any tax liability C. are 100% tax free D. are tax-deferred until a Traditional IRA is established by the beneficiary
The best answer is B. Coverdell Education Savings Accounts permit a maximum annual non-deductible contribution of $2,000 to pay for qualified education expenses. Contributions must cease at age 18. The monies in the account must be used by age 30. Any unexpended funds in the account can be transferred to another family member for their qualified education expenses (like a younger brother or sister).
A customer that earns $300,000 per year wishes to set aside funds for his 12 year old daughter's future college expenses. Which statements are TRUE? I The customer can open a UTMA account for the daughter to deposit the funds II The customer cannot open a UTMA account for the daughter to deposit the funds III The customer can open a Coverdell ESA account for the daughter to deposit the funds IV The customer cannot open a Coverdell ESA account for the daughter to deposit the funds A. I and III B. I and IV C. II and III D. II and IV
The best answer is B. Custodian accounts opened under either the Uniform Gifts to Minors Act (UGMA) or the Uniform Transfers to Minors Act (UTMA) can be opened by any adult for any minor, with no limitation on the income of the donor in determining whether the account can be opened. On the other hand, high earning individuals are prohibited from opening either a Roth IRA or a Coverdell Education Savings Account.
A distribution of $15,000 is taken from a Coverdell Education Savings Account in a given year, but only $13,000 is used for the beneficiary's qualified education expenses in that year. The tax consequence is: A. $2,000 is taxable B. $2,000 is taxable and a 10% penalty will be imposed C. $15,000 is taxable D. $15,000 is taxable and a 10% penalty will be imposed
The best answer is B. Since contributions to Coverdell Education Savings Account are not deductible, normally, distributions from a Coverdell Education Savings Account to pay for qualified education expenses are not taxable. However, if distributions are taken in a given year in excess of the qualified education expenses incurred in that year, then the excess portion is taxable - with the taxable amount being the portion of the distribution that represents the "build-up" in the account above the original contribution amount. This "build-up" was never taxed. In addition, a 10% penalty tax applies as well. The moral of this tale is, use the money in the account to pay for qualified education expenses only; and use it all up for this purpose!
A customer wishes to open an account to fund payment of private middle school tuition. If the customer does not wish to deposit more than $2,000 per year and wishes to get a tax benefit, the best advice is for the customer to open a: A. 529 Plan B. Coverdell ESA C. Trust account D. UTMA account
The best answer is B. The question meets the definition for a Coverdell ESA. Any adult can open a Coverdell for a child (as long as the adult's income is not too high), and the maximum annual contribution of $2,000 is not tax deductible. The account builds tax-deferred. Funds can be withdrawn without tax due to pay for "qualifying" education expenses, which include the cost of elementary, middle school, high school, and vocational school, as well as college costs. 529 plans are typically used to fund college and the contribution amounts are much higher because college is expensive. This type of account would have deposits that are much higher than $2,000 per year. Trust accounts and UTMA accounts could be used to pay for middle school, but there is no tax-deferral on these accounts - earnings are taxable each year.
ABLE accounts are: I used to save funds on a tax-deferred basis to pay for medical expenses II used to save funds on a tax-deferred basis to pay for the ongoing care of disabled individuals III regulated by the MSRB IV regulated by FINRA A. I and III B. I and IV C. II and III D. II and IV
The best answer is C. ABLE accounts were enacted by Congress in late 2014. ABLE stands for "Achieving a Better Life Experience Act." It allows each state to set up a "municipal fund security" regulated by the MSRB that permits an account to be established to pay for the ongoing expenses of a disabled person. One of the key features of an ABLE account is that accumulated savings do not affect that person's eligibility for other Federal benefits (it used to be the case that having too much in assets would disqualify that person from other Federal benefits such as Medicaid). Up to $15,000 per year (the Federal gift tax exclusion amount) can be contributed to an ABLE account, with no tax deduction. The account grows tax-deferred, and payments to pay for qualified expenses are tax-free. Qualified expenses include medical care, transportation, housing, education, and assistive technology. The account must be established before the disabled individual reaches age 26, and proof that the beneficiary is disabled or blind must be provided. ABLE accounts are permitted under Section 529A of the Internal Revenue Code. Do not confuse these with 529 Plans, which are a municipal fund security to save for education expenses.
LGIPs marketed by broker-dealers are: I defined as a type of investment company II defined as a municipal fund security III regulated by the MSRB IV regulated by the SEC A. I and III B. I and IV C. II and III D. II and IV
The best answer is C. An LGIP is a "Local Government Investment Pool." It is an investment fund set up under state law that is only offered to local municipal governmental entities in that state. For example, if a town in a state has collected its real estate taxes, but has not yet spent those funds, it can put the balance in that state's LGIP. The LGIP is managed to provide a safe investment return. The MSRB takes the stance that if an LGIP retains a broker-dealer to market its offerings in that state, then it is a municipal fund security subject to MSRB rules. On the other hand, if the LGIP uses its own employees to market itself to local state governmental entities, then it is not subject to MSRB rules.
A single mother has 2 children, ages 5 and 9. She earns $150,000 per year and wishes to open Coverdell ESAs for each child to pay for qualified education expenses. Which statement is TRUE? A. She can open the account for each child and make an annual $2,000 tax-deductible contribution for each B. She can open the account for each child and make an annual $2,000 non tax-deductible contribution for each C. She is prohibited from opening an account for each child because she earns too much D. She is prohibited from opening an account for each child because Coverdell ESAs are only available to married couples with children
The best answer is C. Both Roth IRAs and Coverdell ESAs are not available to high-earning individuals. There is an income phase-out range, above which contributions are prohibited to either of these. For 2019, the top end of the income phase out range for individuals is $110,000 and for couples it is $220,000.
Which statements are TRUE about federal taxation of contributions to 529 plans? I Contributions are tax deductible to the donor II Contributions are not tax deductible to the donor III Contribution amounts above the gift tax exclusion amount are taxable to the donor IV Contributions amounts above the gift tax exclusion amount are not taxable to the donor A. I and III B. I and IV C. II and III D. II and IV
The best answer is C. Contributions to 529 plans are not federally tax deductible. Any gifts above the annual gift tax exclusion amount ($15,000 in 2019) are subject to gift tax. Gift tax is paid by the donor, not the recipient. Note that a tax benefit offered by 529 plans is a 1-time gift that can be made into the account equal to 5 times the current gift tax exclusion, without the donor worrying about having to pay gift tax. Since the current exclusion is $15,000 in 2019, 5 times this amount or $75,000 can be donated as a 1-time gift and not be subject to gift tax.
Health Saving Accounts (HSAs): I can be established by all employers that offer health insurance plans II can only be established by employers that have high deductible health insurance plans III are funded with tax-deductible contributions IV are funded with non tax-deductible contributions A. I and III B. I and IV C. II and III D. II and IV
The best answer is C. Health Savings Accounts (HSAs) were first authorized by Congress starting in the beginning of 2004. They are a tax advantaged medical savings account that is owned by the individual. They are established by corporate employers as part of their health insurance plans, and only plans that have a high deductible can set up HSAs for employees. More employers are adopting these high-deductible plans coupled with HSAs as a way of reducing, or slowing the growth of, their health insurance expenses. The HSA permits the employer or employee to make a deductible contribution in 2019 of up to $3,500 for a single individual; or $7,000 for a family; to the account. The contribution amount is indexed for inflation annually. The account is invested in a similar manner to an IRA. It grows tax-deferred and withdrawals to pay for qualified medical expenses are tax-free.
Which statements are TRUE about HSAs? I HSAs have the same contribution limits as IRAs II HSAs have lower contribution limits than IRAs III HSAs are funded with tax-deductible contributions IV HSAs are funded with non tax-deductible contributions A. I and III B. I and IV C. II and III D. II and IV
The best answer is C. Health Savings Accounts (HSAs) were first authorized by Congress starting in the beginning of 2004. They are a tax advantaged medical savings account that is owned by the individual. They are established by corporate employers as part of their health insurance plans, and only plans that have a high deductible can set up HSAs for employees. More employers are adopting these high-deductible plans coupled with HSAs as a way of reducing, or slowing the growth of, their health insurance expenses. The HSA permits the employer or employee to make a deductible contribution in 2019 of up to $3,500 for a single individual; or $7,000 for a family; to the account. The contribution amount is indexed for inflation annually. The account is invested in a similar manner to an IRA. It grows tax-deferred and withdrawals to pay for qualified medical expenses are tax-free.
State-sponsored education savings programs that permit contributions to build tax-deferred are known as: A. Coverdell Education Savings Accounts B. Education IRAs C. Section 529 plans D. Section 403(b) plans
The best answer is C. State sponsored education savings programs are "Section 529" plans. Coverdell Education Savings Accounts are a Federal plan.
An individual who has completed college has been working for 9 years and is now 30 years old. He is thinking about returning to school in a few years to complete his masters degree and wants to set up a 529 Plan with himself as the beneficiary. Can he do this? A. No, because the donor and the beneficiary must be different persons in a 529 Plan B. No, because 529 Plans cannot be opened after age 30 C. No, because 529 Plans must have an independent trustee D. Yes
The best answer is D. An unusual feature of 529 Plans is that the donor and the beneficiary can be the same person. There is no age limit on who can be the account beneficiary. This individual can open a 529 Plan for himself and be both the donor and beneficiary.
Which statement is FALSE regarding Section 529 Accounts? A. Any adult can open an account for any beneficiary B. Account contributions are not deductible, but earnings build tax-deferred C. Non-taxable distributions may be made to pay for qualified higher education expenses D. Non-taxable distributions may only be made to educational institutions in the state that sponsors the plan
The best answer is D. Any adult can open a Section 529 account for a beneficiary. Contributions are not tax deductible, but earnings build tax-deferred. Distributions to pay for qualified higher education expenses are not taxable; and these distributions can be made to any qualified educational institution in any state.
Section 529 plans generally permit: I tax deductible contributions by the donor II non-tax deductible contributions by the donor III taxable distributions to the recipient to pay for higher education IV non-taxable distributions to the recipient to pay for higher education A. I and III B. I and IV C. II and III D. II and IV
The best answer is D. Any adult can open a Section 529 account to pay for the higher education expenses of a beneficiary. Starting in 2018, up to $10,000 per year can be withdrawn to pay for education below the college level. There is no tax deduction for the contribution; earnings build tax-deferred; and distributions to pay qualified higher education expenses are not taxable.
Which statement is TRUE about Coverdell Education Savings Accounts? A. Contributions are tax deductible; Distributions are taxable B. Contributions are tax deductible; Distributions are not taxable C. Contributions are not tax deductible; Distributions are taxable D. Contributions are not tax deductible; Distributions are not taxable
The best answer is D. Contributions to Coverdell Education Savings Accounts are not tax deductible; and distributions from Coverdell Education Savings Accounts to pay education expenses are not taxable.
Distributions from a Coverdell Education Savings Account must cease when the beneficiary reaches the age of: A. 16 B. 18 C. 21 D. 30
The best answer is D. Distributions from Coverdell Education Savings Accounts must stop when the beneficiary reaches age 30. Any unexpended funds can be transferred to another related beneficiary (under age 18) for his or her qualified education expenses.
