We are all aware of the overwhelming cost of a college education today. Tuition and fees continue to climb each year with no end in sight. Saving enough to fund your child’s (or grandchild’s) education can be a daunting task. Fortunately, contributing to a 529 plan provides some tax benefits and, thanks to the new tax laws put in place in 2018, some additional flexibility in terms of how the funds can be used.
Unlike company retirement plans or IRAs with set contribution limits, the IRS states on their website that the “contributions cannot exceed the amount necessary to provide for the qualified education expenses of the beneficiary”. In other words, contribute as much as you think the beneficiary will need to cover the extent of his/her education. Individual states set their own contribution limits which currently range between $235,000 and $529,000. (Source: www.savingforcollege.com)
Contributions to 529 plans are considered “gifts” for tax purposes. In 2019, individuals can give up to $15,000 to anyone without incurring a gift tax. A 529 plan is a great way for grandparents to transfer large chunks of money to their grandchildren without worrying about chipping away at their lifetime exclusion amount. In fact, the IRS allows for individuals to contribute $75,000 up front…5 years’ worth of $15,000 contributions (5-year election). Of course, gift taxes won’t be an issue unless you’ve gifted in excess of your $11.4 million lifetime exemption.
The 2017 tax reform package added more flexibility to how 529 plan assets can be used. Families can now use up to $10,000 per year to cover private or public K-12 tuition expenses.
Contributions to 529 plans can be invested in a variety of investment vehicles. All plans will offer an “age-based” option which gradually makes the investment allocation more conservative as the beneficiary gets closer to college. In addition to the age-based option, many plans offer individual mutual funds or ETFs as part of their investment lineup.
The beauty of the plan lies in the fact that as long as withdrawals are used for qualified education expenses, all growth (capital gains, dividends, interest) comes out tax free. Withdrawals made for non-qualified expenses will be taxed and assessed an additional 10% penalty.
Funds in a 529 plan can be transferred tax free to another beneficiary within the same family. Parents and grandparents can use this portability option to move money between beneficiary accounts based on who needs more or less for their education or simply change the beneficiary of the plan. Assets can also be rolled over to other 529 plan platforms. It is important to discuss with your Investment Advisor or CPA the rules around how often and to whom 529 plan assets can be moved.