A day to celebrate saving for college
Jill on Money
We recently marked 5-29 Day, a day when states try to boost interest and participation in 529 education savings programs with various incentives. So, this is a good time for a refresher Q&A on the popular plan and an update on what has changed since the Tax Cut and Jobs Act was enacted.
What is a 529? A tax-advantaged savings plan designed to encourage saving for education costs. 529 plans are sponsored by states, state agencies or educational institutions and are authorized by Section 529 of the Internal Revenue Code.
What are the types of 529s? Prepaid tuition plans allow savers to purchase units or credits at participating colleges and universities (usually public and in-state) for future tuition and mandatory fees (though usually not room and board) at current prices for the beneficiary. College savings plans provide accounts where savers can invest for future qualified higher education expenses, including tuition, mandatory fees and room and board. The money in the plans can generally be used at any college or university, regardless of residency.
What’s the tax benefit of a 529 plan? Withdrawals for qualified higher education expenses and earnings in the account are not subject to federal income tax and, in most cases, state income tax. Additionally, some states offer residents of the state specific incentives, like the ability to deduct contributions from state income tax or a matching grant.
What does a 529 plan cost? Fees and expenses vary widely from plan to plan and can include start-up fees, maintenance fees or sales charges. In general, advisor-sold cost more than direct-sold plans. The Financial Industry Regulatory Authority has developed a tool to help you compare how these fees and expenses can reduce returns.
What happens if my kid doesn’t go to college? Most states allow you to tap the accounts for other children in the family or even for the parents. Those withdrawals that are not used for qualified higher education expenses will be subject to state and federal income taxes and an additional 10 percent federal tax penalty on earnings.
How does money in a 529 plan affect financial aid eligibility? 529 plan assets will reduce aid amounts but at a fairly low rate, by a maximum of 5.64 percent of the asset’s value. For example, if you have saved $10,000 in a 529 plan for your child, her aid would be reduced by roughly $550.
What has changed with the 2018 tax law? Americans can now withdraw funds tax-free from 529 plans to pay for K-12 tuition and other eligible expenses at private and religious schools, up to $10,000 per year. But there’s a caveat: Not all states will conform to the new federal rules. That means before you pull money, be sure to double check with your state.
Additionally, families saving in a Coverdell Education Savings Account (previously known as an Education IRA) can now switch to a 529 plan with no tax consequences. Although the Coverdell caps contributions at $2,000 annually, many used it because money invested in these accounts could be used for K-12.
Before transitioning to a 529, know that Coverdells can be used to pay for a broader range of expenses, like room and board or uniforms. The Coverdell allows you to self-direct your investments.
Jill Schlesinger, CFP, is a CBS News business analyst. She welcomes comments and questions at askjill@jillonmoney.com.