This property generates investment income—interest, dividends, and profits from asset sales. It’s called “unearned income,” because the earner didn’t actually have to work at a job or business to make the money. Although your child doesn’t have to pay tax upon receiving a gift, the child will be responsible for paying tax on any unearned income the property generates. How this investment income is taxed depends on the child’s age—the rules change for children who turn 19 before the end of the tax year.

Over half the states allow a tax deduction for state residents. If you live in a high-tax state like New York, this can save you some money. You get no federal tax deduction for contributions. • The money in your 529 account grows tax free. Withdrawals are tax free if used for qualified educational expenses—tuition, fees, books, supplies, and equipment required for enrollment at an accredited college, university, or vocational school (but not for elementary or secondary school expenses) • In most states, there is no age limit or time limit for when the money in a 529 plan must be used.

What If You Exceed the Coverdell ESA Income Limits? If you exceed the income limits, you are not allowed to contribute to a Coverdell ESA. There’s an easy way around this, however. Ask the child’s grandparents or other relatives whose incomes are below the income ceiling to contribute to the ESA in their own names. You can simply repay them—it’s perfectly legal. 529 savings plan A popular option these days is the 529 savings plan (named after Section 529 of the tax code, and also called a Qualified Tuition Program or QTP for short).