College Central General 529 Savings Information/529 Plan Overview
529 Plans were established by the U.S. Congress in 1996. The official title is “Qualified State Tuition Program,” and their birth is found in Section 529 of the Internal Revenue Code, hence the name “529 Plan”. Designed to provide a strategy to save for the higher education expenses of a child, programs are administered by a state agency or an organization designated by the state such as a for-profit investment company. Plans differ from state to state. Some states have a plan available to prospective students and owners with no specific residency requirements. Other state plans are available only to residents. Nearly every state has at least one 529 plan available. The 2017 tax reform package expanded 529 plan benefits to include federal tax-free withdrawals for private, public or religious elementary, middle and high school tuition up to a limit of $10,000 in tuition.
There are certain requirements set forth in the Internal Revenue Code that apply to all qualified state tuition plans. Among these are: all contributions have to be made in cash; there must be a separate account for each beneficiary; there is a penalty for use of funds for purposes other than qualified higher education expenses of the beneficiary (allowances are made if the beneficiary receives a scholarship or upon the death or disability of the beneficiary); neither contributor nor beneficiary can direct the investment of the funds; and the investment may not be used as security for a loan.
How It Works
A “contributor/owner” establishes an account for the “beneficiary,” often a child or grandchild, for the purpose of paying expected education expenses. To establish an account, the contributor may use the 529 Plan in his/her state of residence or he/she may use a 529 Plan from another state that does not have a residency requirement. Most 529 College Savings Plans have no residency requirement. Mutual fund companies have been selected by the sponsoring states to manage many of these 529 Plans. The contributor, based on his/her investment objective, chooses a specific fund portfolio available from the mutual fund company and then makes contributions to the fund according to his/her wishes.
An example of how one state structures one of its programs (states may offer more than one savings plan):
There is no residency requirement and no age requirement for the beneficiary, and the contributor and beneficiary may be the same person. The minimum initial dollar value to start is a $250 lump sum contribution, or if the contributor prefers to use an automatic deposit option, the account may be opened with a minimum monthly deposit of as little as $25. Maximum contributions for one beneficiary can total $472,000. Available investment choices include age-based portfolios, fixed allocation multi-fund portfolios, individual fund portfolios and a stable value option. The program is direct-sold and does not charge an enrollment or annual administration fee. A deduction against state income tax is allowed for residents' contributions to the home state plan, and earnings are exempt from state and federal income tax when used for a qualified education expense.
The federal tax law makes no stipulation as to who the contributor may be in relation to the beneficiary. The contributor/owner maintains continuous ownership of the account. The contributor may change the beneficiary, but the new beneficiary must be a member of the family of the original beneficiary in order for the change to be treated as a tax-free event.
Colleges and Expenses
Eligible expenses and institutions: In general, funds in the 529 Plan may be applied to the costs of tuition, fees, books, supplies, room-and-board, computers and related equipment and services if they are used primarily by the beneficiary during the years that the beneficiary is enrolled at an “eligible higher education institution,” and some other forms of equipment required for attendance at an “eligible educational institution.” Institutions of higher education in the US and some foreign institutions participating in US Department of Education Title IV Federal Student Financial Aid programs qualify as “eligible.” Included institutions are most private colleges, public universities, graduate schools, two-year community colleges, and vocational-technical schools. As of 2018, tuition expenses of up to $10,000 for elementary, middle, and high schools (private, public or religious) are also eligible expenses at the Federal level (state treatment of these expenses is somewhat uncertain and varies from state to state).
The 529 Plan offers many tax advantages.
- Earnings are federal and state income tax deferred until withdrawal, at which time the withdrawals are free from federal income taxes when used for a qualified expense.
- Some states allow a state income tax deduction, tax credit, or other benefits to their residents only if the resident contributes to their home-state plan. A few states offer a state income tax deduction for contributions to any and all 529 programs.
- Contributions of as much as $75,000 per beneficiary can be made in a single year under certain conditions without triggering the federal gift tax.
- Value of contributions can be removed from one's estate while still allowing for complete control to rest with the owner.
529 plans can be owned by anyone for any beneficiary. A parent, grandparent, aunt/uncle, relative or non-relative can own and contribute to a 529 plan without regard to their relationship to the beneficiary. There are no income requirements or limits on owning or contributing to a plan. The account owner maintains control of the account, regardless of the age of the beneficiary. The account owner may change the beneficiary without penalty, providing the new beneficiary is a member of the family of the original beneficiary. 529 assets receive favorable treatment under federal student financial aid guidelines. If the designated beneficiary receives a scholarship or dies or becomes disabled, there is no penalty for withdrawal of funds.
Available plan investment choices are established by the individual sponsoring state and investments can not be self directed or frequently changed. Account owner bears the benefits and risk associated with investment returns. Investments are subject to market and other risks and may lose value. Earnings that are withdrawn and not used to pay for a qualified educational expense will be subject to income tax and penalty.
Still Have Questions? Check out our 529 FAQ