An education savings bond program lets qualified taxpayers exempt all or a portion of the interest earned upon redemption of eligible savings bonds from their annual gross income. The bonds become tax-exempt when their owners use both the principal and interest to pay for higher education at qualified institutions, either attended by themselves, their spouses, or their dependents.
- An education savings bond program lets taxpayers exempt some or all of the interest earned upon redemption of eligible savings bonds from their annual gross income.
- The bond owner must be at least 24 years of age when the bond is purchased for it to qualify for this program.
- The bond must be used solely for tuition related expenses, such as lab fees and college courses.
- The bonds cannot be used to pay for textbooks, room, and board, or sports programs.
To take advantage of this program, investors must comply with the following rules:
- The bond owner must be 24 years of age or older at the time of purchase. If a parent buys the bond and puts it in the name of a child who is under 24 years of age, the bond does not qualify.
- When savings bonds are redeemed, all funds must be used to pay off higher education expenses for the owners, their spouses, or their dependents. The Internal Revenue Service only recognizes payments made to qualified institutions where the U.S. Department of Education has established student-aid programs.
- Funds can only be used towards tuition-related expenses, including lab fees and degree-required courses. The funds may not be used to cover the costs of board, books, or recreational activities.
- Funds from the redeemed bonds can also be used to make tax-free contributions to a Coverdell Education Savings Account.
- Eligible education expenses must be incurred during the same tax year as the bond’s redemption.
- Any nontaxable education payments, education aid, or tax-free scholarships must be subtracted from eligible expenses.
- If the total proceeds from the bonds equal less than the amount of eligible expenses, all of the interest accrued on the bond remains tax-free. But if the bond proceeds exceed the eligible expense amount, the amount of tax-exempt interest is subject to a prorated reduction.
- The amount of tax-exempt interest is based on the owner’s modified adjusted gross income(MAGI). If the owner’s MAGI reaches a certain threshold, he or she may not be eligible for this program. For joint tax filers in 2017, that threshold was $147,250. For single filers, the MAGI threshold was $93,150. Married owners are required to file joint taxes in order to receive the exemption
- All payments made with bond proceeds must be reported to the IRS along with detailed receipts. It is also necessary to maintain itemized records of all redeemed bonds. Filers must use forms the IRS specifically designed for this purpose.
Important: To qualify for this program, the savings bonds must be Series EE or Series I bond issued after 1989.
-Andrew Bloomenthal Investopedia