When you are planning your financial future, it is not only important to know "what" to plan for but "how" to plan for the "what." Let me explain. For paying off debt and meeting your expenses, you budget based on your expected income. For the unexpected, you put money away in a savings account. For short-term goals like buying a house, you might put money away in a savings account or – in some cases – invest in a low-risk portfolio. For retirement, you put money away in your 401k and IRA accounts. But what about your children's education? If you want your kid to go to college, how should you financially prepare for this? The answer often is: Invest. Specifically, invest in an account designed for college.

There are two main accounts used for setting money aside for college. These accounts are 529 Plans and Coverdell ESAs.

These accounts have similarities. Both accounts allow you to invest in the market. Both accounts allow you to take out the money tax-free, assuming you only spend the money on an approved "educational" expense. Both accounts are funded with "after-tax" dollars – similar to how a Roth IRA works. Both accounts list the creator of the account, often the parent, as the owner. Both accounts list the future student as the beneficiary. Both accounts allow you to change the beneficiary to another family member.

But of course, there are differences.

Let us start with 529 Plans. These plans are set up state by state. In other words, Florida has a 529 plan, and Georgia has a 529 plan with slightly different rules, and New York has a 529 plan with slightly different rules than either Florida or Georgia, and so on. The bad news is you are limited to the investment options allowed by each state. The good news is you can invest in most other states' 529 plans without living there! Most states regulate the total (but not annual) amount you can contribute to the 529 Plan for a single beneficiary for all time. Most (but definitely not all) states allow some type of tax benefit for contributions. For Federal Taxation, you can apply the gift tax exclusion to a 529 plan. You can also spend 529 money on tuition – and only tuition – for K-12 expenses.

While we are still on 529 plans, there are actually two types: savings plans and prepaid plans. Savings plans are essentially what I was describing above. Prepaid plans have more-or-less all the features of a savings plan except for the following. (1) Prepaid Plans are NOT offered by all states. (2) Prepaid Plans allow you to "lock-in" today's tuition prices – which is why people like prepaid plans. (3) Prepaid Plans cannot be used for K-12 tuition. (4) Prepaid plans cannot be used for room and board for college unlike savings plans. (5) Oftentimes, prepaid plans cannot be used for as many colleges as savings plans. So be aware of those differences.

Now we move on to Coverdell ESAs. You can set these up through your local investment advisor (that would be us!). These accounts have an annual (as opposed to total) contribution limit of $2000. There are income limits to these as well – in other words, you can't contribute money to them if your income is too high. You can spend Coverdell ESA funds on K-12 expenses such as tuition, books, supplies, tutoring, etc. Also, to avoid penalties, money cannot be contributed to the account after the beneficiary turns 18 and the money must be spent before the current beneficiary turns 30.

Some of that information can be a bit technical and this write-up is hardly comprehensive, so it is always important to seek advice before opening an account. Especially if that advice means securing your future college student's financial situation!

Written by Keith Stacy, Investor Coach