Let’s start with the basics: what is a 529 Plan? Many investors may already be aware, but in layman’s terms, a 529 plan is a state or educational institution-sponsored college savings program (also applies to post-secondary education). 529 plans are not for everyone, but when utilized they can provide several advantageous benefits for those hoping to save for college.
Here, we try to give you a comprehensive view of those benefits, as well as a few important considerations:
- There are Different Types of 529 Plans – There are two different types of plans: prepaid tuition plans and savings plans. Once you decide which one is right for you, then you enter the marketplace to find a plan. Many states offer different types of plans with different investment options and restrictions, and you are not necessarily restricted to your state’s plan.
- You Can Open Several 529 Plans for Several Beneficiaries – you do not necessarily have to open a 529 plan for your child or grandchild, though that is generally what many 529 owners do. You can actually open a 529 plan for a friend as well, or even yourself! There are also no tax consequences to change the designated beneficiary to another member of the family, if for example your originally designated beneficiary receives a full scholarship.
- There are Several Advantages of 529 Plans – the biggest advantage: tax savings. The earnings in 529 plans are not subject to federal taxes and are generally exempt from state taxes as well, assuming the assets are used for qualified expenses of the beneficiary (more on that later).
- Contribution Limits and Gifting Rules – according to IRS rules, contributions “cannot exceed the amount necessary to provide for the qualified education expenses of the beneficiary.” Contributions may also be counted towards the gift exclusion allowed each year, which is $14,000 per person.
- Rules for How You Can Spend the Money – “qualified” education expenses include tuition, fees, books, room and board, computers and related equipment, and technology access such as the internet. Where it can get a bit tricky is in how to pay for these expenses. The three general options are send the money to the school, have a check sent to the beneficiary, or have a check sent to you. Sending money to the school is best for recordkeeping purposes, but it may count against the student’s ability to receive financial aid from the institution. If you have the check sent to you or the beneficiary, it generally means you are responsible for the recordkeeping. Also, note that money sent to the student may mean that 529 earnings need to be reported on his/her return. It’s best to use the help of a financial professional to make sure you get it right.
- Recordkeeping is Important – this mostly applies if you have 529 money sent directly to you or to the student. Withdrawals are tax free, but it’s a wise move to keep a close paper trail of how the money was used at the school. You should also be careful not to withdraw more than the maximum allowed amount, as it may trigger ordinary income taxes and a penalty.
- Don’t Forget to Manage the Investments or Seek Help – when you open a 529 plan, the idea is to stash away money for college but also to invest that money so it grows tax free—and can cover the rapidly rising cost of college tuition. Generally speaking, the further away the beneficiary is from attending school, the more equity exposure you can consider for growth purposes. As the child nears college, it may make sense to consider lowering equity exposure in an effort to reduce volatility.
Considering a 529 Plan for a Loved One? Ask WrapManager for Help
If you are considering opening a 529 plan or simply want to learn more about your options (you have a lot of them), please do not hesitate to call or email one of our Wealth Managers. Once we learn more about your college savings goals, we can walk you through different types of plans and discuss what option may make sense for you. Call today at 1-800-541-7774 or email us at firstname.lastname@example.org.
The information presented by WrapManager, Inc. is general information only and doesnot represent tax or legal advice either expressed or implied. You are encouraged toseek professional tax advice for income tax questions and assistance. WrapManager, Inc. does not advise on any income tax requirements or issues.