What is a 529 College Savings Plan?
A 529 Savings Plan is an investment account offering tax and financial aid benefits for students. Your money grows tax-free so long as you use it for qualified educational expenses. This includes higher education costs at more than 6,000 U.S. colleges and more than 400 foreign colleges—tuition, fees, books, supplies, equipment, computers, and potentially room and board. 529 Savings Plans can also be used to pay up to $10,000 of K-12 tuition per year.
All states, except for Wyoming, offer a 529 Savings Plan. You’re welcome to enroll in a 529 Savings Plan from any state regardless of your residency or chosen college. For example, if you live in Pennsylvania, you could enroll in California’s 529 Savings Plan to cover college costs in New Jersey. However, investing in your home state’s plan could qualify you for state income tax deductions.
How Does a 529 College Savings Plan Work?
A 529 College Savings Plan works like your typical investment account except you don’t pay taxes on earnings when you withdraw money for qualifying educational purposes. You contribute what you want when you want. Many users choose to set up automated monthly deposits from a bank account to keep contributions consistent. Others prefer lump sum payments around the holidays or birthdays.
You choose what funds you want to invest in based on the options offered by your provider. Any earnings get reinvested, maximizing growth potential. When it’s time to make a withdrawal, you can set up a direct payment to the qualifying educational institution, the beneficiary, or another eligible entity. Funds withdrawn for a qualifying educational expense are federal tax-free.
What if I Withdraw Funds for Another Use?
If you withdraw funds for a use other than a qualifying educational expense, you’re subject to paying income tax on the earnings and a penalty. However, you can have the penalty waived if the beneficiary:
- Earns a tax-free scholarship
- Attends a U.S. Military Academy
- Dies or becomes disabled.
What if My Child Decides Not to Attend College?
If your beneficiary decides not to attend college and you’re hoping to avoid income tax and penalties, you have a few options:
- Change the beneficiary to another qualifying family member
- Keep the funds in the account in case the beneficiary decides to attend college or grad school in the future
- Rename yourself as the beneficiary to further your education
- Move funds to a 529 ABLE account if your beneficiary is diagnosed with a disability
- Withdraw funds with earnings subject to federal income tax and a 10% penalty
How Does a 529 College Savings Account Affect Financial Aid?
When you save for college, you need to be strategic. Save too much and your child could miss out on need-based scholarships and grants. Save too little and your child might need to borrow student loans.
The way 529 plans affect financial aid varies between institutions, but in general, what matters most is who sets up the plan.
Dependent Student or Dependent Student Custodial Parent
If a dependent student or a dependent student’s custodial parent owns the account, it is reported as a parent asset on the FAFSA. It is not reported as income. At most, this reduces the student’s eligibility for need-based aid by up to 5.64% of the unsheltered net asset value.
If an independent student owns the account, it is reported as a student asset on the FAFSA. It is not reported as income. This will reduce need-based financial aid eligibility by 20% of the net asset value. Find out if you’re a dependent or independent student here.
If a grandparent, non-custodial parent, or anyone else other than those listed above owns the account, it is not reported as an asset on the FAFSA. However, it is reported as untaxed income for the student on the FAFSA. This can have a big impact on the student’s eligibility for need-based financial aid.
Advantages of a 529 College Savings Plan
529 College Savings Plans let you save for your child’s future education tax-free. These plans offer several other benefits, especially when comparing against other college saving alternatives.
With a 529 College Savings Plan:
- You can enroll your child (or yourself) at any age or grade
- Any U.S. resident can enroll
- You contribute what you can when you can
- Funds can be used to cover qualified K-12 expenses and/or higher education tuition, fees, housing, books, and supplies at any qualified public or private institution
- You can transfer the funds to another beneficiary (including yourself) if desired
- Contributions grow federal tax-free when used to pay for qualifying education expenses
- Some states offer state income tax breaks for 529 plans
- No income limits, age limits, or annual contribution limits like you’d find with Roth IRAS and Coverdell Education Savings Accounts
- You can open more than one account for a single beneficiary
Disadvantages of a 529 College Savings Plan
Of course, a 529 College Savings Plan has a few drawbacks worth considering:
- High risk because your money isn’t guaranteed like it is with a prepaid college savings plan
- You must pay income tax and a 10% penalty on all unqualified withdrawals
- Lifetime contribution limits range from $235,000 to $520,000
- Withdrawn funds could disqualify your student from receiving need-based financial aid on the FAFSA and CSS Profile
- What counts as a qualified distribution is strict
Alternatives to 529 Savings Plans
A 529 Savings Plan isn’t for everyone. Other college savings options like Prepaid Plans, high-yield savings accounts, or Roth IRA accounts might better fit your needs.
529 Prepaid Plan
Along with offering a 529 College Savings Plan, a few states also offer Prepaid Tuition Plans. A prepaid plan lets you prepay for your child’s education based on locked-in anticipated tuition rates. Your money is guaranteed, so you never lose the value that you put into the account. This isn’t the case with 529 College Savings Plans. Plus, even if tuition rates increase more than expected by the time your child enrolls, a fully funded prepaid college plan still covers the cost.
Many families pair a prepaid plan with a 529 college savings plan. The first is used for tuition costs and sometimes room and board. The second helps cover the cost of books and supplies.
Learn more about prepaid plans here.
With a tax-advantaged Roth IRA account, you can save for your retirement and your child’s education simultaneously. Any money you withdraw to cover educational expenses is penalty-free. Additionally, if your child opts not to go to college, you can keep funds in the account for your retirement.
Roth IRAs have annual contribution limits of $6,000 depending on your age. Pairing a Roth IRA with another saving method can ensure you have enough for retirement and your child’s education.
High-Yield Savings Account
Use a high-yield savings account if you want a low-risk, flexible way to save for college. High-yield savings accounts offer 1.8% or higher APY and keep your money easily accessible. That accessibility is great if your child decides not to attend college or you face economic struggles. However, because it’s easily accessible, it can be tempting to spend your savings frivolously.
Get Started with a 529 College Savings Plan
Anyone can open a 529 College Savings Plan, and it’s easy to do! Follow the steps below to get started:
Decide Who Will Open the Account
Remember, who owns the account matters and could significantly affect financial aid. Before opening an account, make sure you fully understand how this decision could help or hurt your student’s shot at need-based financial aid. Talk to an accountant to learn more about the tax implications in your state too.
Choose a Provider
At the end of the article, you’ll see a list of 529 College Savings Plan providers. Look at your state’s plan first to see if it offers tax benefits. If it does, your state’s plan is likely your best option. If it doesn’t, explore other state plans. You can enroll in any state’s plan regardless of your residency status or where your child decides to go to college.
Choose an Investment Fund/Portfolio
Each plan offers different investment fund or portfolio options. For example, in Pennsylvania, you can choose between a low-risk guaranteed savings plan and an investment plan. The guaranteed savings plan helps your savings to keep up with rising tuition costs. The investment plan lets you choose from 17 investment options from The Vanguard Group.
Start Making Contributions
Some funds require a minimum contribution when you open the account. The amount ranges from $0 to $250.
After paying the minimum contribution, consider the additional contribution options. Most plans let you set up automatic payroll deduction, make lump sum payments, and rollover remaining funds from a different 529 plan, a Coverdell Education Savings Account, or a U.S. Savings Bond.
List of States Offering 529 College Savings Plans
Compare plans across different states to see what makes sense for your family. Your home state may offer state tax benefits, which may only be available if you invest in your home state’s plan.
Compare the Best Student Loan Refinance Rates
Here are our top student loan refinance picks for 2019
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Student Debt Relief Loan Refinancing Advertiser Disclosure
College Ave Student Loans products are made available through either Firstrust Bank, member FDIC or M.Y. Safra Bank, FSB, member FDIC. All loans are subject to individual approval and adherence to underwriting guidelines. Program restrictions, other terms, and conditions apply. (1)The 0.25% auto-pay interest rate reduction applies as long as the borrower or cosigner, if applicable, enrolls in auto-pay and authorizes our loan servicer to automatically deduct your monthly payments from a valid bank account via Automated Clearing House (“ACH”). The rate reduction applies for as long as the monthly payment amount is successfully deducted from the designated bank account and is suspended during periods of forbearance and certain deferments. Variable rates may increase after consummation. (2)$5,000 is the minimum requirement to refinance. The maximum loan amount is $300,000 for those with medical, dental, pharmacy or veterinary doctorate degrees, and $150,000 for all other undergraduate or graduate degrees. (3)This informational repayment example uses typical loan terms for a refi borrower with a Full Principal & Interest Repayment and a 10-year repayment term, has a $40,000 loan and a 5.5% Annual Percentage Rate (“APR”): 120 monthly payments of $434.11 while in the repayment period, for a total amount of payments of $52,092.61. Loans will never have a full principal and interest monthly payment of less than $50. Your actual rates and repayment terms may vary. Information advertised valid as of 1/27/2021. Variable interest rates may increase after consummation.
ELFI: Subject to credit approval. Terms and conditions apply. To qualify for refinancing or student loans consolidation through ELFI, you must have at least $15,000 in student loan debt and must have earned a bachelor’s degree or higher from an approved post-secondary institution.
LendKey: Refinancing via LendKey.com is only available for applicants with qualified private education loans from an eligible institution. Loans that were used for exam preparation classes, including, but not limited to, loans for LSAT, MCAT, GMAT, and GRE preparation, are not eligible for refinancing with a lender via LendKey.com. If you currently have any of these exam preparation loans, you should not include them in an application to refinance your student loans on this website. Applicants must be either U.S. citizens or Permanent Residents in an eligible state to qualify for a loan. Certain membership requirements (including the opening of a share account and any applicable association fees in connection with membership) may apply in the event that an applicant wishes to accept a loan offer from a credit union lender. Lenders participating on LendKey.com reserve the right to modify or discontinue the products, terms, and benefits offered on this website at any time without notice. LendKey Technologies, Inc. is not affiliated with, nor does it endorse, any educational institution.
CommonBond: Offered terms are subject to change. Loans are offered by CommonBond Lending, LLC (NMLS # 1175900). If you are approved for a loan, the interest rate offered will depend on your credit profile, your application, the loan term selected and will be within the ranges of rates shown. All Annual Percentage Rates (APRs) displayed assume borrowers enroll in auto pay and account for the 0.25% reduction in interest rate.
Splash Financial: Terms and Conditions apply. Splash reserves the right to modify or discontinue products and benefits at any time without notice. Rates and terms are also subject to change at any time without notice. Offers are subject to credit approval.com
Earnest: To qualify, you must be a U.S. citizen or possess a 10-year (non-conditional) Permanent Resident Card, reside in a state Earnest lends in, and satisfy our minimum eligibility criteria. You may find more information on loan eligibility here: https://www.earnest.com/eligibility. Not all applicants will be approved for a loan, and not all applicants qualify for the lowest rate. Approval and interest rate depend on the review of a complete application.
Earnest’s fixed-rate loan rates range from 3.89% APR (with autopay) to 7.89% APR (with autopay). Variable rate loan rates range from 2.50% APR (with autopay) to 7.27% APR (with autopay). For variable rate loans, although the interest rate will vary after you are approved, the interest rate will never exceed 8.95% for loan terms of 10 years or less. For loan terms of 10 to 15 years, the interest rate will never exceed 9.95%. For loan terms over 15 years, the interest rate will never exceed 11.95% (the maximum rates for these loans). Earnest variable interest rate loans are based on a publicly available index, the one month London Interbank Offered Rate (LIBOR). Your rate will be calculated each month by adding a margin between 0.26% and 5.03% to the one month LIBOR. The rate will not increase more than once per month. Earnest rate ranges are current as of April 23, 2019 and are subject to change based on market conditions and borrower eligibility.
Auto Pay Discount: If you make monthly principal and interest payments by an automatic, monthly deduction from a savings or checking account, your rate will be reduced by one quarter of one percent (0.25%) for so long as you continue to make automatic, electronic monthly payments. This benefit is suspended during periods of deferment and forbearance.
The information provided on this page is updated as of 04/23/19. Earnest reserves the right to change, pause, or terminate product offerings at any time without notice.
Earnest loans are originated by Earnest Operations LLC. California Finance Lender License 6054788. NMLS # 1204917. Earnest Operations LLC is located at 303 2nd Street, Suite 401N, San Francisco, CA 94107. Terms and Conditions apply. Visit https://www.earnest.com/terms-of-service, e-mail us at firstname.lastname@example.org, or call 888-601-2801 for more information on our student loan refinance product.