What You Need To Know About 529 Plans
If you’re saving for your child’s higher education, you probably have a lot of questions besides “How much more expensive College Education has become for your children than it was for you?” And, I am sure you heard about the most popular savings tool – 529 Plans.
Started almost three decades ago, and operated by states and financial institutions, the 529 College Savings Plans (a.k.a. 529 Plans) offer tax-advantaged ways to save for various costs of higher education. While the awareness of these plans has increased in the recent past, there seem to be many lingering questions about the details on the minds of parents. So, here you go – What else should you know? Here are the answers for the 7 most commonly asked questions:
First and foremost – are 529 distributions tax-free only when used for College Education? No. This was true until the new Tax Cuts and Jobs Act kicked in late last year. Thanks to the goods in the new law, Parents can now take tax-free distributions from 529 Plans to fund the private elementary or secondary school education of their children.
What can my child use 529 money for? Money saved in 529 Plans can be used for qualified expenses such as tuition, fees, books, supplies, computer-related costs and room and board for someone who is at least a half-time student. Pizza, burritos, and beer don’t qualify, unfortunately.
How much can I contribute? The answer is not as straightforward as with an individual retirement account(a.k.a. IRA) or 401(k) retirement plan. Generally, contributions to 529 Plans max out at $350,000 per beneficiary.
You also need to remember federal gift tax laws. For example, A gift of more than $15,000 to a single person in one year incurs gift tax and requires you to file a gift tax return for the year. Accordingly, contributions to a 529 plan – which are considered as gifts to the beneficiary, are subject to these standard gift tax rules. However, there is one exception. The tax code allows you to jump-start future year contributions (up to 5 years) without triggering gift tax rules. What this means is: if you are married and have children, you and your spouse can put away up to $150,000 in one year to an account for a beneficiary and not worry about gift tax consequences.
What if grandparents or other relatives want to contribute? Yes, family members can either open a 529 account and name your child as the beneficiary or kick into an existing 529 that they don’t own.
If your family members contribute to a 529 account that they do own, they may have an additional tax benefit – ie., they receive a state tax benefit if the state plan offers such a deduction. On the other hand, to keep things simpler, you could open just one account for the beneficiary and let your family help fund it.
Why use a 529 over a regular taxable account? These accounts defer taxes and your contributions grow tax-free as long as you use the funds on the qualified expenses mentioned earlier.
This beats paying Uncle Sam for an after-tax account – but of course, the latter does offer complete flexibility on where and how you can spend the money. A 529 doesn’t.
What if my child gets a full scholarship? You will not lose money. In other words, you will not have to pay the 10% penalty for non-qualified withdrawals.
However, you do pay income taxes on the earnings portion of the 529 funds withdrawn. You can also use distributions from your 529 Plans to pay for expenses that the scholarship doesn’t cover, such as room and board, books and other required supplies.
In addition, you can keep the 529 open with your child as beneficiary if he or she plans on graduate school, or you can also change the beneficiary and name another college-bound child.
What if my child does not want to go to college? You can change the beneficiary to another family member (a sibling, first cousin, grandparent, aunt, uncle or yourself, for example), and the money goes toward that person’s education. Most plans allow you to change your beneficiary only once a year, but if your child has a change of heart and does decide to attend college, you can rename that child the beneficiary.
Remember too that these funds can help pay for two-year associate degrees, as well as for trade and vocational schools.
A final option: Withdraw the money, or cash out the plan. You pay income tax and a 10% penalty on the earnings, but not on your contributions.
If unsure that your child is in fact headed to college, sit tight on cashing out. One thing you learn fast about young adults: life can always change.
So, what do you think? Do you have more questions on your mind that need clarification? Call me to discuss your options. I look forward to helping you better prepared to fund your child’s education goals. Good luck!
Did you like the post? Subscribe To my Newsletter
to receive occasional updates/blog posts/newsletter from me. My goal with every email is to provide valuable information that could benefit you.