Funding Future Education Costs
Sponsors of Section 529 plans, renamed Qualified Tuition Programs, will no longer be limited to plans maintained by state agencies. Beginning January 1, 2002, plan sponsors will include programs established and maintained by eligible educational institutions (public or private). Plan assets must be held in a qualified trust and the program must receive a favorable IRS determination letter. Eligible educational institutions, which have "in-house" investment managers, might consider marketing their investment expertise and sponsoring such plans.

In 2002, tax-exempt bonds may be issued to fund the construction or expansion of elementary and secondary public school facilities owned by private, for-profit corporations pursuant to public-private partnership agreements with a state or local educational agency. The special financing rules for "private activity bonds" will apply to this new type of tax-exempt bond offering.

For individuals, an income exclusion will be available for certain payouts from Qualified Tuition Programs. Plan earnings have been and will continue to be exempt from current income taxation but a portion of plan distributions, even if used for qualified higher education expenses, were taxable to the student recipient, generally at a student's lower income tax rate. Beginning after December 31, 2001, for state-sponsored plans and after December 31, 2003, for educational institution plans, an exclusion from gross income will apply to distributions for expenses related to post-secondary educational institutions.

Other changes to Qualified Tuition Programs include an additional 10-percent penalty tax on plan distributions, which are not excluded from gross income; a permissible rollover, once within any 12-month period, from one qualified plan to another for the same beneficiary; and the expansion of alternate plan beneficiaries to include first cousins of the original plan beneficiary.

The 2001 Act also modified Education IRAs, recently renamed Coverdell Education Savings Accounts. First, the annual contribution limit has been increased from $500 to $2,000 per beneficiary. Second, eligible education expenses have been expanded to include "qualified elementary and secondary school expenses," such as tuition, fees, room and board, uniforms, transportation and supplementary items and services and expenses for the purchase of certain categories of computer technology or equipment. Third, for married individuals, filing joint returns, the phaseout level for taxpayers eligible for Coverdell account contributions has been increased from $190,000 to $220,000 of modified adjusted gross income. Finally, contributions could be made by the due date of the contributor's federal income tax return rather than by the end of the current year. All of these changes will be effective for taxable years beginning after December 31, 2001.

In addition, both Qualified Tuition Plans and Coverdell Accounts now have provisions for a special-needs beneficiary. Contributions to a Coverdell Account and a Qualified Tuition Plan for the same beneficiary in the same year will be permitted, but distributions from either will not be eligible for the HOPE credit or the Lifetime Learning Credit.

Benefits for Past and Current Education Costs
Beginning after 2001 and before 2006, eligible taxpayers could claim a deduction against their gross income (not an itemized deduction), not to exceed $3,000 in 2002 and 2003 and $4,000 in 2004 and 2005, for qualified, higher- education expenses. Such expenses are limited to tuition and fees. Taxpayers could not claim either a HOPE or Lifetime Learning Credit in the same year with respect to the same student. Taxpayers with adjusted gross income of more than $65,000 for single taxpayers and $130,000 for married filing jointly taxpayers will not be eligible.

In addition, certain taxpayers will be entitled to deduct up to $2,500 of interest on student loans. The 2001 Act, beginning January 1, 2002, will increase the phaseout income range for taxpayers so more taxpayers will be eligible for this deduction. Also, the 60-month limitation period for deductions has been repealed, and the deduction has been extended to include voluntary payments of interest.

The $5,250 annual exclusion for employer-paid educational assistance for undergraduate courses, which was set to expire next year, has been permanently extended. The exclusion will once again, beginning January 1, 2002, apply to graduate education.

Amounts received by an individual under the National Health Services Corp. Scholarship Program or the Armed Forces Scholarship Program will be eligible for tax-free treatment as qualified scholarships, without regard to any service obligation by the recipient. This special exclusion applies to education awards received after December 31, 2001.

-- by Jeffrey Steven Levin