Prepare for Education Expenses With a 529 Savings Plan

If you have children, you probably have concerns about saving for their education while also paying for your household expenses and achieving your personal and family financial goals.

College education can be very costly, especially if you have more than one child who you want to financially assist. Fortunately, there are financial strategies that can assist you in paying for your children’s education. One of these strategies is a 529 plan, which also provides tax advantages. According to the College Savings Plans Network, by the end of 2023 there were approximately 16.428 million 529 savings accounts nationwide with assets totaling $471.18 billion. The average 529 savings plan account had $27,741. By setting up a 529 savings plan, you are financially preparing yourself for the future while also setting your children up for success.

What is a 529 savings plan? 

A 529 savings plan is a tax-advantaged financial plan that assists people in paying for K-12 tuition, as well as college education expenses. There are two types of 529 plans: 1) prepaid tuition and education savings plans, and 2) a state-sponsored 529 plan, meaning states, state agencies, or educational institutions sponsor at least one of these plans, if not both. Additionally, some private colleges and universities hold a different 529 plan.

How does a 529 savings plan work? 

An account holder is an individual who opens a 529 account to start saving for either their own or a beneficiary’s education expenses. There is no minimum or maximum income to open an account. However, the account holder must be 18 years or older, a U.S. resident, and be able to show proof of address and a social security number or tax ID. The account holder retains control over the money and the ability to make investment decisions, regardless of beneficiary’s age. A beneficiary can be of any age and with a social security number or tax ID and can even be the same individual who opens the account. The account holder has the power to change the beneficiary if that person chooses not to attend college.

Are there any required fees in setting up a 529 plan?

If you decide to set up a prepaid tuition plan, they may charge an enrollment fee and ongoing administrative fees. If you set up an education savings plan, however, you have an enrollment fee, annual account maintenance fees, ongoing program management fees, and ongoing asset management fees.

How can money in a 529 plan be used?

Money can be used at virtually any accredited college in the country to pay for a variety of college expenses, including tuition, fees, room, board, books, supplies and required equipment.

Tax advantages to 529 savings plans

A 529 savings plan gives the account holder tax advantages depending on the state where they reside. The earnings grow tax-deferred and are free of federal income tax as long as the funds go towards paying for qualified higher education expenses, such as tuition and fees, books, school supplies, computers and related equipment, room and board (for education savings plans), and certain K-12 tuition related expenses.

Contributions to a 529 savings plan are post-tax and are not deductible from federal income taxes. However, some states allow state income deductions or tax credits, but only if you invest in a plan sponsored by the state where you reside. When you decide to withdraw from your 529 plan, the funds will not be subject to federal income taxes and sometimes even state income taxes.

Account owners can make a lump sum contribution of up to $75,000 per beneficiary or $150,000 if married filing jointly and avoid incurring a Gift Tax on this amount by electing to use five years of the annual gift tax exclusion all in one year. After utilizing this provision, the annual exclusion cannot be used again for the same beneficiary until the five year period has passed. Should a donor die within those five years, a pro-rata amount of the gift will revert back to their estate and be treated as a taxable gift.

What are the contribution rules to setting up a 529 plan? 

States have different limitations as to how much you can contribute to your 529 plan. Many plans offer maximum contribution limits of $300,000 or more. Most plans have very low minimum monthly contribution limits, making them accessible to families of all income levels.  Most states limit the account to $235,000. Anyone who has the desire to contribute to the 529 will contribute as a gift. Family members or friends can contribute virtually at any time.

How does a prepaid tuition plan differ from a 529 plan?

Essentially, with a prepaid tuition plan, parents, grandparents, and other interested parties may purchase future tuition at a set price today through a one-time lump sum purchase or monthly installment payments.

Prepaid tuition plans are only available in a specific state colleges and universities, and are not available for K-12 educational institutions. Most of the universities or colleges that participate in this particular plan are in-state public universities and community colleges. An account holder can pay some or all of the tuition costs at current prices for the future student. Future room and board expenses usually are not covered by this particular 529 plan. Prepaid tuition plans can grow in value as time passes, and once the student can access the account, the funds are not taxable. Prepaid tuition plans have some limitations. State governments usually sponsor these plans, causing state residency requirements for the account holder and the future student. The federal government does not guarantee prepaid tuition payments, but some state governments do. If your tuition payment plan is not guaranteed, you are at risk of losing some or all of the money. If the student decides not to attend a participating college or university, the plan may pay less, and the return may be smaller than the original investment.

What is an education savings plan?

An education savings plan, sometimes known as a college savings plan, is more common among the two. With an education savings plan, an account holder can invest their after-tax money into mutual funds. Contrary to the prepaid tuition plan, this plan lets you save for a student’s tuition costs and future room and board fees. When an account holder decides to withdraw the funds, they can put the money towards college expenses or K-12 education expenses. The state government sponsors all of the education savings plans.

Deciding the best way to pay for education expenses can be challenging. Opening a 529 saving plan account while your children are young provides the most flexibility to start preparing how to help them financially in the future. FinLocker has additional resources on paying for college in the Education tab. You can create a specific Goal to start saving for college, and create a household Budget to identify where you can save more from your paycheck to contribute to this savings goal.

What can I do with money leftover in a 529 plan?

Participants in the 529 plan can roller up to $35,000 in unused funds to a Roth IRA retirement-savings account for their child. The 529 plan account must have been open for 15 years, with the same account holder and designated beneficiary. You cannot roll over more than the annual IRA contribution limit in total, for all IRAs in the beneficiary’s name. For 2024 the contribution limit is $7,000 a year for those under age 50.

This rule should also ease concerns for parents and grandparents who have saved money in a 529 plan and their child does not go to college, attends a lower-priced institution such as a trade school or community college, or gets scholarships to cover their tuition.

Other options for leftover 529 plan funds:
• Change the beneficiary to a qualifying family member (the parent), who can then use the funds for their own education.
• Use up to $10,000 of 529 savings to pay down student loans for the beneficiary or a sibling.

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