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Today CERTIFIED FINANCIAL PLANNER ™, J.J. Montanaro joins us to talk about the 529 College Savings Plan.

 

Tara: What is a 529 College Savings Plan? Why would I want one?

 

JJ: A great way to save for college! The 529 got its name because of the special tax benefits it offers that are laid out in Section 529 of the tax code. You might want one to take advantage of those tax benefits while saving money for your children’s college so that you (or they) don’t have a lot of debt when they graduate.

 

Tara: Are there different types? What is the difference?

 

JJ: There are two main types of 529 plans. First, there are college savings plans where you invest and accumulate money within the plan, kind of like how a 401(k) works. Second, there are prepaid tuition plans where you buy tuition credits at today’s prices for later use. As far as 529 college savings plans go, there are many different plans out there and they can vary dramatically in terms of cost, investment offerings, and contribution limits. Research as to what’s best for you, is definitely in order.

 

Tara: Does the 529 affect financial aid?

 

JJ: 529 savings plans owned by either the parent or the dependent student are considered parental assets when you fill out the Federal financial aid application. This means they have less of an impact than assets in the student’s name like assets in an UGMA/UTMA account.

 

Tara: Are there additional tax benefits of a 529?

 

JJ: I believe the biggest benefit is that your savings is tax-deferred and withdrawals for qualified education expenses are tax-free. Beyond that, some states offer state income tax benefits for folks that contribute to a 529 plan. Check with your state’s revenue department to learn more.

 

Tara: Does it matter what school is attended? (in-state or out-of-state)

 

JJ: 529 savings plans can be used in or out of state. Typically, prepaid tuition plans are set up to most benefit those that attend school in a particular state. Although even with prepaid plans there are typically options for out of state use.

 

Tara: How do I know that a 529 is the best route for our family?

 

JJ: If your savings is specifically for college, a 529 is definitely worth exploring. One of the 529’s features is the ability to change beneficiaries. For example if you save money for one of your children, but instead decide to transfer and use the Post-9/11 GI Bill for her, you could transfer the money and make a younger child the beneficiary.

 

Tara: How do I pick the best 529 plan?

 

JJ: That’s kind of like standing in a closet full of wonderful dresses and asking, “which dress should I wear?” The reality is that you want one that fits and that you like. There are plenty of options available, so shop, shop, shop!

 

Tara: Where can I go to see what 529’s are available?

 

JJ: To compare plans from across the country visit the website SavingForCollege.com.

 

For more articles and advice by J.J. Montanaro, please visit AskUSAA.

 

Certified Financial Planner Board of Standards, Inc. owns the certification marks CFP® and CERTIFIED FINANCIAL PLANNER™ in the United States, which it awards to individuals who successfully complete CFP Board's initial and ongoing certification requirements.

 

Financial advice provided by USAA Financial Planning Services Insurance Agency, Inc. (known as USAA Financial Insurance Agency in California, License # 0E36312), and USAA Financial Advisors, Inc., a registered broker dealer.

7 Comments
Robert T K
Occasional Visitor

Is there an annual limit to 529 contributions?  

 

Is it true that 529 contributions beyond $14,000 are taxed as a gift, even though a direct tuition payment would not be?

Community Manager
Community Manager

I'm not sure I would use the phrase "taxed as a gift," since for most folks, there wouldn't be any taxes that would have to be paid.  Let's dig in to the details:

 

The $14,000 figure you referenced is called the annual gift tax exclusion. Generally, an individual can make a gift to another individual of up to $14,000 in 2015 without making a taxable gift (more on that in a second). So, a married couple (say, grandparents) would be able to gift up to $28,000 to an individual in a single year using the annual gift tax exclusion.

 

With a 529 plan, you have the ability to make a five-year election and "bunch" your gifts--so you could use up your annual exclusion for gifts to that individual for the coming 5 years and contribute up to $70,000 ($140,000 as a couple) to the 529 without making a taxable gift.

 

As the gift and estate tax are coordinated, you could actually make taxable gifts of over $5 million (lifetime exclusion) without actually having to pay tax on the gift--granted, you'd be left with a little less to pass on estate tax free at your death, but the takeaway is that most people aren't going to have to worry about paying gift tax.  I would direct any questions on this topic to your estate planning attorney.

 

Direct payments of tuition to a college, do not count towards the annual gift tax exclusion or use up any of the lifetime exclusion. So, you could give an unlimited amount to an individual in this way. Remember though, this exclusion only applies to tuition, not other expenses like room and board or books.  Also, this technique could impact the student's eligibility for financial aid.

 

Hope that helps!

 

JJ

 

 

 

Robert T K
Occasional Visitor

 

Thanks, this is very helpful!

 

It still strikes me as odd that a contribution to a 529 could be theoretically taxable as a gift (if above the gift tax threshold), but direct tuition payments are not.  Seems like a contradiction.  (In any case, I think most people don't view education as a gift, but rather an investment.)

 

But with the possibility of bundling of five years of contributions in one, in my case it won't come to that.  

 

Thanks again!

MBStr8
Visitor

Follow-on question:  What is the max that can be contributed per year to a 529 and is that a total from all sources  (ie grandparents, parents, aunt/uncles, etc.)?   We've contributed $28,000 (gifts from parents) to each of our children this year, hoping grandparents can do the same.

Thank you.

LTColmac
Contributor

I opened a 529 plan for my grandson when he was born.  He turned 1 today!  I've subsequently learned that because I'm the grandparent and not the parent, my grandson's financial aid would be impacted in that the assets of his 529 would be counted as his and not his parents.  This then would adversely impact the aid amount.  If this is true, then my initial thought would be to transfer ownership to my grandson's parents before he applied for financial aid.  For example, when he reaches the senior year of  high school.  Does this make sense?  What other snakes in the grass should i be aware of?  thank you

USAA Service
USAA Service

@LTColmac, thank you for reaching out today!. I will engage a subject matter expert to assist with your inquiry. They will be reaching out to you soon. -Cynthia

Community Manager
Community Manager

LTColmac,

What a great question and congratulations on your grandson.  1 year old is such a great and fun age. 

 

Assets and financial aid can be a balancing act. Different assets may impact eligibility for federal financial aid in different ways. For example, an asset owned by the parent typically will not have as negative of an impact on financial aid as an asset owned by the student.   When you look at you just owning the 529, it does not factor into the financial aid calculation of your grandson.  The negative impact comes when you use the 529 for the benefit of your grandson (you take a distribution).  In that case the student must report that distribution as student income which has a higher impact on financial aid.

 

You have found the way around this and that is gifting the account to the child's parents.  However, I want to offer two thoughts to consider.

  1. Will your child use the money for your grandchild?  Some would take the money and use it for their own purpose and some would honor your wishes. 
  2. I recommend talking to your tax advisor to find the best time to gift/transfer ownership if that is your desired course of action.  You can always just contribute to the 529 for your grandson that your child own.

Also, remember that the distribution from the account you own only impacts financial aid.  If your grandson will not be needing financial aid the next year, then the distribution will not have any negative impact.

 

Also, keep in mind that when you give ownership to your child, they control the funds.  If there is any money left over, they can use it for another one of their children or even themselves and you do not have any legal action to direct who the new beneficiary becomes.

 

I hope this helps answers some questions and have a wonderful day.