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Can a Grandparent be the Responsible Individual of a CESA?

Posted by James M. Carlson
Jul 18 2013

Yes, but the IRS model CESA forms must be revised.

Such a revision is permissible. The IRS has written in Article V of its Model Coverdell ESA (CESA) plan agreement form (5305-E and 5305-EA) to require that the individual must be a parent or guardian beneficiary and that there shall only be one responsible individual at any time.

Collin W. Fritz and Associates, Ltd. has chosen to write its current version of the Coverdell ESA plan agreement forms to allow a grandparent or a great grandparent to be the responsible individual. Many grandparents today make contributions to CESAs for their grandchildren. However, many grandparents are frustrated because they would prefer to control the funds by being the depositor and the responsible individual, but they lose this control to their son, daughter-in-law, daughter or son-in-law if the standard IRS Coverdell ESA form is used. Many financial institutions don’t understand that there are CESA forms available allowing a grandparent or a great grandparent to serve as the custodian.

The authority for Coverdell Education Savings Accounts is section 530. Nowhere in this tax code section is the term, “responsible individual,” mentioned let alone defined. The IRS settled on the approach that an adult needed to act on behalf of the child (i.e. the designated beneficiary) and so wrote the model Coverdell ESA forms to require that a parent or guardian be the responsible individual. He or she is to act on the behalf of the designated child and in some cases on behalf of other family members of the designated beneficiary. Articles V and VI on set forth on the following page.

Article VIII sets forth the procedure that other articles may be added or incorporated into the Coverdell ESA. However, if the additional article would conflict with any of the provision in Article I-III, then the provisions of Articles I through III will control. This means Article V may be revised. Authorizing a grandparent or a great grandparent will not cause problems with the IRS. Nowhere has the IRS ever stated that a grandparent may not serve as the responsible individual. In Chapter 7 of Publication 970, in numerous places the IRS states that a parent or guardian is “generally” the responsible individual. The CESA plan document must authorize a grandparent or a great grandparent to be eligible to be a responsible individual – either in the original document or by adopting an amendment.

Categories: Coverdell ESAs, Pension Alerts

ATRA Makes Permanent the Coverdell ESA Law Changes Made in 2001

Posted by James M. Carlson
May 14 2013

Unlike with the QCD which has had another 2 year short term extension, the Coverdell ESA changes of 2001 have been adopted on a permanent basis. The main changes are: the maximum contribution limits remains at $2,000 and is not reduced to $500, qualifying education expenses are all school related education expenses and not just post-secondary expenses and the special rules applying to an individual who has special needs.

The IRS should be revising its model Coverdell ESA forms (Form 5305-E and 5305-EA) to incorporate the special laws applying to individuals with special needs and the law authorizing military death gratuities be rolled over into a Coverdell ESA. Certain family members of soldiers who receive military death death benefits may make a rollover contribution, subject to certain limits, up to 100% of such benefits into a Coverdell ESA.

CESAs For Special Needs Individuals

2013 Tax/Financial Planning Rule. There should be a Coverdell ESA established for every special needs individual. How many CESAs does your institution service for special needs individuals?

ARTA was enacted into law on January 2, 2013. The CESA law changes in effect from 2002-2011 were made permanent.

The special rules for individuals with special needs are now permanent. A $2,000 annual contribution may be made for an individual with special needs regardless of his or her age. That is, even if he person with special needs is age 39, an annual $2,000 contribution may be made to his or her CESA. As long as the earnings of the CESA are used for the special needs individual's educational needs, such income will not be taxable.

One would expect that many parents, grandparents, sisters, and brothers will choose to establish a Coverdell ESA for an individual with special needs. This assumes they understand the availability of the Coverdell ESA. For whatever reason, the IRS has not yet revised its model CESA forms to authorize and emphasize the special rules for individuals with special needs. Even though the IRS is busy implementing other taxes, the IRS hopefully will make this revision. We at CWF will be revising Coverdell ESA forms to discuss the special rules applying to individuals with special needs.

In many cases the fact that the only tax benefit is relatively nominal (no taxation of the earnings); in some cases, this no taxation of earnings will be a substantial tax benefit. Considering how easy it is to establish a Coverdell ESA, more people should be doing so.

Categories: Coverdell ESAs, Pension Alerts