Saving for your children's college education is one of the most important financial tasks you will ever undertake. Luckily, you have plenty of savings options, most of them with tax advantages designed to encourage you to invest in your children's future. Consider U.S. savings bonds:
Series EE bonds, issued at a 50% discount off face value, and I-bonds provide a safe, tax-favored way to save for college, but they alone won’t help you meet your investment goals. EE bonds issued in early 2010 earned a fixed 1.2%, much less than the 5% to 6% college inflation rate; I-bonds, which combine a fixed basic rate over the life of the bond with an inflation rate that is adjusted semiannually, earned 3.36%. Each bond earns interest over 30 years. You can redeem them for their purchase price after one year, but you sacrifice three months’ interest if you redeem them within the first five years.
Here’s the education advantage: The bonds let you exclude from taxes some or all of the earnings on any amount you redeem that covers tuition and fees at a qualified post-secondary institution. To get the break, you must be 24 or older when the bond is purchased. Only EE bonds and I bonds purchased after 1989 qualify for the tax break.
You must also meet income limits to get this tax break. As of 2010, the exclusion starts to phase out at a modified adjusted gross income of $105,100 for married taxpayers filing jointly and at $70,100 for single filers. The exclusion disappears completely when adjusted gross income is $135,100 for couples filing jointly and $85,100 for single filers.