Darcy K. Houghton: It's back to school time

It's back to school time. Does that impact estate planning? It might! Understanding both the income and estate tax issues associated with college planning is challenging as the income tax and gift tax codes do not necessarily work in harmony.

We all continue to hear about saving for college, and there are many vehicles and reasons. One reason to save is to accumulate sufficient funds - the other is to participate in a plan that will utilize time to avoid gift taxes.

The gift tax code pretty much says that anything given to anyone is a taxable gift - including checks for tuition, room and board. The good news is that it then allows an exemption amount which, in 2012, is $13,000. This exemption can be used every year by every grantor and for every beneficiary. That sounds like a lot of money. However, if a single parent is paying for a child's private tuition, room and board, that amount could easily exceed the annual $13,000. How does one avoid the filing of gift tax returns?

First, the Internal Revenue Code allows anyone to pay the tuition and medical expenses of another, including medical insurance, provided that the funds are paid directly to the provider or institution. This rule for education applies to elementary, secondary and post-secondary education. This can be done for children, grandchildren - even a neighbor - and doesn't impact the $13,000.

Additionally, there are some great savings opportunities to avoid the transfer tax and still support the kids through college. First, fund a 529 Plan. A 529 Plan is a great tool both for estate planning and income tax planning. The exemption amount of $13,000 can be contributed each year and front loaded if appropriate. You can use a portion of your annual exemption amount to fund a Coverdell Education Savings Account with a maximum amount of $2,000 per year per student. The assets in these accounts grow income and estate tax-free so long as they are used for qualified education expenses. These accounts have an additional benefit in that they are not counted as the students' resources when the student applies for financial aid.

One last planning opportunity is the good ol' fashioned trust funds. Trust funds allow for the gradual transfer of assets, prevent kids from spending money they shouldn't and protect assets from predators, but they are not the best college planning tool if the student also is aiming for financial aid. Without careful drafting, all or a portion of the trust's assets will count against the student for financial aid.

Too often, families don't start saving for college until there is not enough time to get that nest-egg together. The above outlines the fact that it is not only the resources that must be accumulated, but care should be given to how they are accumulated to enhance the likelihood of financial aid and diminish transfer tax issues when the funds are actually used.

• Darcy K. Houghton is a resident of Carson City and works in trust and wealth management with Whittier Trust and is Of Counsel to Houghton Jones (www.hou2plan.com).