(a) General rule A Coverdell education savings account shall be exempt from taxation under this subtitle. Notwithstanding the preceding sentence, the Coverdell education savings account shall be subject to the taxes imposed by section
511 (relating to imposition of tax on unrelated business income of charitable organizations).
(b) Definitions and special rules For purposes of this section
(1) Coverdell education savings account The term Coverdell education savings account means a trust created or organized in the United States exclusively for the purpose of paying the qualified education expenses of an individual who is the designated beneficiary of the trust (and designated as a Coverdell education savings account at the time created or organized), but only if the written governing instrument creating the trust meets the following requirements:
(A) No contribution will be accepted
(i) unless it is in cash,
(ii) after the date on which such beneficiary attains age 18, or
(iii) except in the case of rollover contributions, if such contribution would result in aggregate contributions for the taxable year exceeding $2,000.
(B) The trustee is a bank (as defined in section
408 (n)) or another person who demonstrates to the satisfaction of the Secretary that the manner in which that person will administer the trust will be consistent with the requirements of this section or who has so demonstrated with respect to any individual retirement plan.
(C) No part of the trust assets will be invested in life insurance contracts.
(D) The assets of the trust shall not be commingled with other property except in a common trust fund or common investment fund.
(E) Except as provided in subsection (d)(7), any balance to the credit of the designated beneficiary on the date on which the beneficiary attains age 30 shall be distributed within 30 days after such date to the beneficiary or, if the beneficiary dies before attaining age 30, shall be distributed within 30 days after the date of death of such beneficiary.
The age limitations in subparagraphs (A)(ii) and (E), and paragraphs (5) and (6) of subsection (d), shall not apply to any designated beneficiary with special needs (as determined under regulations prescribed by the Secretary).
(2) Qualified education expenses
(A) In general The term qualified education expenses means
(i) qualified higher education expenses (as defined in section
529 (e)(3)), and
(ii) qualified elementary and secondary education expenses (as defined in paragraph (3)).
(B) Qualified tuition programs Such term shall include any contribution to a qualified tuition program (as defined in section
529 (b)) on behalf of the designated beneficiary (as defined in section
529 (e)(1)); but there shall be no increase in the investment in the contract for purposes of applying section
72 by reason of any portion of such contribution which is not includible in gross income by reason of subsection (d)(2).
(3) Qualified elementary and secondary education expenses
(A) In general The term qualified elementary and secondary education expenses means
(i) expenses for tuition, fees, academic tutoring, special needs services in the case of a special needs beneficiary, books, supplies, and other equipment which are incurred in connection with the enrollment or attendance of the designated beneficiary of the trust as an elementary or secondary
school student at a public, private, or religious
school,
(ii) expenses for room and board, uniforms, transportation, and supplementary items and services (including extended day programs) which are required or provided by a public, private, or religious
school in connection with such enrollment or attendance, and
(iii) expenses for the purchase of any computer technology or equipment (as defined in section
170 (e)(6)(F)(i)) or Internet access and related services, if such technology, equipment, or services are to be used by the beneficiary and the beneficiarys family during any of the years the beneficiary is in
school.
Clause (iii) shall not include expenses for computer software designed for sports, games, or hobbies unless the software is predominantly educational in nature.
(B) School The term
school means any
school which provides elementary education or secondary education (kindergarten through grade 12), as determined under State law.
(4) Time when contributions deemed made
An individual shall be deemed to have made a contribution to an education individual retirement account on the last day of the preceding taxable year if the contribution is made on account of such taxable year and is made not later than the time prescribed by law for filing the return for such taxable year (not including extensions thereof).
(c) Reduction in permitted contributions based on adjusted gross income
(1) In general In the case of a contributor who is an individual, the maximum amount the contributor could otherwise make to an account under this section shall be reduced by an amount which bears the same ratio to such maximum amount as
(A) the excess of
(i) the contributors modified adjusted gross income for such taxable year, over
(ii) $95,000 ($190,000 in the case of a joint return), bears to
(B) $15,000 ($30,000 in the case of a joint return).
(2) Modified adjusted gross income For purposes of paragraph (1), the term modified adjusted gross income means the adjusted gross income of the taxpayer for the taxable year increased by any amount excluded from gross income under section
911,
931, or
933.
(d) Tax treatment of distributions
(1) In general Any distribution shall be includible in the gross income of the distributee in the manner as provided in section
72.
(2) Distributions for qualified education expenses
(A) In general
No amount shall be includible in gross income under paragraph (1) if the qualified education expenses of the designated beneficiary during the taxable year are not less than the aggregate distributions during the taxable year.
(B) Distributions in excess of expenses
If such aggregate distributions exceed such expenses during the taxable year, the amount otherwise includible in gross income under paragraph (1) shall be reduced by the amount which bears the same ratio to the amount which would be includible in gross income under paragraph (1) (without regard to this subparagraph) as the qualified education expenses bear to such aggregate distributions.
(C) Coordination with Hope and Lifetime Learning credits and qualified tuition programs For purposes of subparagraph (A)
(i) Credit coordination The total amount of qualified education expenses with respect to an individual for the taxable year shall be reduced
(II) by the amount of such expenses which were taken into account in determining the credit allowed to the taxpayer or any other person under section
25A.
(ii) Coordination with qualified tuition programs If, with respect to an individual for any taxable year
(I) the aggregate distributions during such year to which subparagraph (A) and section
529 (c)(3)(B) apply, exceed
(II) the total amount of qualified education expenses (after the application of clause (i)) for such year,
the taxpayer shall allocate such expenses among such distributions for purposes of determining the amount of the exclusion under subparagraph (A) and section 529 (c)(3)(B).
(D) Disallowance of excluded amounts as deduction, credit, or exclusion
No deduction, credit, or exclusion shall be allowed to the taxpayer under any other section of this chapter for any qualified education expenses to the extent taken into account in determining the amount of the exclusion under this paragraph.
(3) Special rules for applying estate and gift taxes with respect to account Rules similar to the rules of paragraphs (2), (4), and (5) of section
529 (c) shall apply for purposes of this section.
(4) Additional tax for distributions not used for educational expenses
(A) In general
The tax imposed by this chapter for any taxable year on any taxpayer who receives a payment or distribution from a Coverdell education savings account which is includible in gross income shall be increased by 10 percent of the amount which is so includible.
(B) Exceptions Subparagraph (A) shall not apply if the payment or distribution is
(i) made to a beneficiary (or to the estate of the designated beneficiary) on or after the death of the designated beneficiary,
(ii) attributable to the designated beneficiarys being disabled (within the meaning of section
72 (m)(7)),
(iii) made on account of a scholarship, allowance, or payment described in section
25A (g)(2) received by the designated beneficiary to the extent the amount of the payment or distribution does not exceed the amount of the scholarship, allowance, or payment,
(iv) made on account of the attendance of the designated beneficiary at the United States Military Academy, the United States Naval Academy, the United States Air Force Academy, the United States Coast Guard Academy, or the United States Merchant Marine Academy, to the extent that the amount of the payment or distribution does not exceed the costs of advanced education (as defined by section
2005 (e)(3) of title
10, United States Code, as in effect on the date of the enactment of this section) attributable to such attendance, or
(v) an amount which is includible in gross income solely by application of paragraph (2)(C)(i)(II) for the taxable year.
(C) Contributions returned before certain date Subparagraph (A) shall not apply to the distribution of any contribution made during a taxable year on behalf of the designated beneficiary if
(i) such distribution is made before the first day of the sixth month of the taxable year following the taxable year, and
(ii) such distribution is accompanied by the amount of net income attributable to such excess contribution.
Any net income described in clause (ii) shall be included in gross income for the taxable year in which such excess contribution was made.
(5) Rollover contributions
Paragraph (1) shall not apply to any amount paid or distributed from a Coverdell education savings account to the extent that the amount received is paid, not later than the 60th day after the date of such payment or distribution, into another Coverdell education savings account for the benefit of the same beneficiary or a member of the family (within the meaning of section 529(e)(2)) of such beneficiary who has not attained age 30 as of such date. The preceding sentence shall not apply to any payment or distribution if it applied to any prior payment or distribution during the 12-month period ending on the date of the payment or distribution.
(6) Change in beneficiary
Any change in the beneficiary of a Coverdell education savings account shall not be treated as a distribution for purposes of paragraph (1) if the new beneficiary is a member of the family (as so defined) of the old beneficiary and has not attained age 30 as of the date of such change.
(7) Special rules for death and divorce Rules similar to the rules of paragraphs (7) and (8) of section
220 (f) shall apply. In applying the preceding sentence, members of the family (as so defined) of the designated beneficiary shall be treated in the same manner as the spouse under such paragraph (8).
(8) Deemed distribution on required distribution date
In any case in which a distribution is required under subsection (b)(1)(E), any balance to the credit of a designated beneficiary as of the close of the 30-day period referred to in such subsection for making such distribution shall be deemed distributed at the close of such period.
(g) Custodial accounts For purposes of this section, a custodial account shall be treated as a trust if the assets of such account are held by a bank (as defined in section
408 (n)) or another person who demonstrates, to the satisfaction of the Secretary, that the manner in which he will administer the account will be consistent with the requirements of this section, and if the custodial account would, except for the fact that it is not a trust, constitute an account described in subsection (b)(1). For purposes of this title, in the case of a custodial account treated as a trust by reason of the preceding sentence, the custodian of such account shall be treated as the trustee thereof.