401(kids)? A Rehash of the Coverdell

With much fanfare, Illinois congressman and US Senate candidate Mark Kirk (R-Illinois) has pushed his plan, adorably referred to as 401(kids) (see news story here).  But what is this plan he’s referring to?  Unless I’m missing something, this is the Coverdell ESA (Education Savings Account) that has been in existence for quite some time now.


Kirk’s primary beef is with the Illinois-based BrightStart 529 plan – which is mostly a swipe at one of his main opponents in the Senate race, Illinois’ Treasurer Alexi Giannoulias, since BrightStart falls under Giannoulias’ responsibility.  Last year, one of the funds in the BrightStart plan, managed by Oppenheimer, was severely impacted by the fallout in the bond market due to overexposure in the derivatives market.  Negotiations between Oppenheimer and Giannoulias’ office are continuing, and investors are expected to receive some sort of remuneration soon.


So anyhow, as is often the case, in the heat of the moment during the economic fallout of last year, this 401(kids) plan was recommended.  It’s my contention that this plan is nothing new – the Coverdell ESA is pretty much exactly the same thing.  Let’s do a quick comparison between the proposed plan and the existing Coverdell ESA:


401(kids) Coverdell ESA
Annual Limit $2,000 per year $2,000 per year
Tax Treatment No tax deduction, earnings are not taxed if used for qualified education costs No tax deduction, earnings are not taxed if used for qualified education costs
Other Limits Can be used for education expenses at any accredited institution Can be used for education expenses at any accredited institution
Additional If not used for education, could be distributed for other purposes such as first home purchase; earnings would be subject to 10% penalty for non-qualified distribution No other provisions for usage; earnings would be subject to 10% penalty for non-qualified distribution



So, other than the provision that these funds might also be used for a first-time home purchase, there’s no difference.  And consumers have already voted with their actions:  the Coverdell ESA is too little, too late.  With the miniscule annual funding amount (in comparison to the costs of college), paired together with the fact that there is no up-front tax benefit (as is available with the BrightStart plan for example), it seems that this proposed legislation is another example of unnecessary posturing-based law, with no or extremely low perceived benefit.


In fact, if the investor in a Coverdell or the new 401(kids) plan were to experience a similar issue as BrightStart investors did with Oppenheimer – how successful do you think the individual investors would be in negotiating remuneration on their own?  Don’t get me wrong, I’m in favor of less governmental involvement in most cases, but in this case I think the 529 plan wins out. What do you think?

About the author

Jim Blankenship, CFP®, EA

Jim Blankenship is the founder and principal of Blankenship Financial Planning, Ltd., a financial planning firm providing hourly, as-needed financial planning and advice. A financial services professional for over 25 years, Jim is a CFP professional and has earned the Enrolled Agent designation, a designation that qualifies him as enrolled to practice before the IRS. Jim is also a NAPFA-registered financial advisor, which designates him as a Fee-Only Financial Advisor.

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