The 529 is a tax-free investment savings account. Families can start one with as little as $25 and can contribute from $235,000 up to $380,000 depending on which state the account will be used in. The funds from a 529 can be used at any accredited college in the U.S., public or private, for tuition, books, housing expenses and almost anything else that is directly related to higher education costs. The advantages to having a 529 are extensive.
Tax Free – Before and After
Every dollar put into a 529 remains untaxed as long as it is in the plan. When the funds are removed for college expenses, they are still untaxed at the Federal level; both principal and investment earnings. Most states also follow this same no-tax policy, but there are a few that will tax the investment earnings upon withdrawal. This comparison chart of 529 plans can be used to examine individual state income tax policies.
529 monies are also fall under the Gift Tax Exclusion. $13,000 can be contributed annually without incurring Federal Income Tax. Also, up to five years worth ($65,000) can be placed into the account in one year with no tax penalty as long as no further contributions are made. This amount can be doubled ($130,000) for a married couple. If the maximum amounts are exceeded, those monies can be taxed from 20 percent all the way up to 50 percent.
529 college saving plans can be opened for anyone, regardless if the person is five or fifty. The recipient does not even have to be related to the person establishing the investment account. This makes a 529 ideal for grandparents putting money aside for a newborn or anyone who may wish to go back for a degree after working for several years.
Multiple accounts can even be opened for a child to bypass the contribution restrictions. This is especially important if a parent believes the child will pursue additional education such as medical school. If the additional studies are not pursued, then any remaining funds can be rolled into another child’s 529.
Unlike a custodial account, which moves to the control of the child at age 18 or 21 (depending on the state where the account is established), a 529 account stays with the parent or whoever opened it. This way, the funds will be used for the original intent or given to another child.
Despite these benefits, there are certain disadvantages that come with a 529 Investment Plan. For withdraws applied to other than education, there is a 10 percent penalty taken on the investment earnings. In addition to that, there are Federal taxes and many states will impose their own taxes as well.
Some states have very tight restrictions on what they allow for investments. Individual investors have no choice in which mutual funds and securities they can purchase, but must choose from what is offered as a package. Despite these restrictions, there are still benefits. Most state plans are set up so they are more aggressive in the first years and then become more conservative in the years when the funds will be needed to ensure the portfolio keeps its value. Anyone that wants to pursue a more personalized, but riskier investment account should probably seek a Coverdell account in addition to a 529 as well.
Does A 529 Affect Financial Aid Eligibility?
A 529 account is considered an asset of whoever opened it and not that of the student. It will not affect the eligibility against need-based financial aid as any other financial asset since most of those are considered to belong to the student applying for aid. 529s also have no effect on applications for merit-based scholarships.
How do I chose a 529?
First, decide in which state to set up the account. Since in-state tuition is much lower in most cases, this is the normal choice. If however, the parents want their child to pursue one of their alma maters, then the account will need to be set up there. Next, most states will offer more than one 529. Establishing an account also needs to consider the age of the child and how many years are available to build it. A period of five years will require a more aggressive portfolio while a full eighteen years gives more options. Some funds even have age restrictions for the person for whom the fund is being established. Finally, research the fund group that manages the 529 accounts. Make certain each one is fully licensed and has a well-documented record of success.
How Do I Set One Up?
It can be done online by anyone using Savingforcollege.com or College Savings Plans Network, but the process can be very difficult and time consuming. Hiring a broker will cost, but it will ensure that every Federal and State tax requirement is met and the 529 account will be properly established. Shop around before deciding and try to find a broker whose commission will not wipe out the first year’s earnings. Some brokers will try to charge up to 5.75 percent, but a commission of 3.5 percent should be what every parent or other account owner should try to seek.