Do you understand 529 college savings plans? They are a great way to take advantage of potential tax savings and grow your investment in a simple and flexible way. But did you know these secrets that you can take advantage of?
1. You can choose to "superfund" a 529 plan. If you have a wealthy grandparent or relative who would like to make a generous contribution to your 529, they can superfund the plan up to $70,000 in a single year without facing a gift tax penalty. In most cases, the gift tax comes into play for amounts over $14,000 in a single year. The amount is transferred out of the donor's estate and into a tax-deferred (and potentially tax-free) investment for college. Superfunding treats the gift as if it came in over a five-year period--a great estate planning tip for grandparents or your rich uncle.
2. You’ve been working so hard to save for your student, and then your talented child gets a scholarship. What to do with the money you saved? Well, there are several options, but you may not have known you can make a withdrawal from the 529 in the dollar amount of the scholarship without paying the 10% penalty. Your withdrawal is not for qualified expenses like tuition or room and board because these are being covered by the scholarship. Normally, this type of non-qualified withdrawal would be subject to a 10% penalty. In this case the earnings portion of the withdrawal would be taxable but would not be subject to the penalty.
3. Age is only a number. The beneficiary on your 529 plan does not have to be a child. There is no age restriction on 529 plans. Even grandmas and grandpas can go back to school and use funds from a 529.
4. You don’t have to put all your eggs in one basket. If it makes sense for you, take advantage of your state’s tax credit and invest in your state’s plan. If you have additional money to save, you can invest it in another state's 529 plan that may have lower fees or additional investment options not available in your state's plan. Take note that the funds in a 529 plan can be used at any accredited institution across the globe, regardless of the state that administers the plan.
5. When thinking about qualified expenses, don't limit your thinking to just tuition, room, and board. Expand your thinking a bit. Basically, anything you are required to have as part of your college education can be covered. Computers…yes. Internet service…yes. Required course fees…yes. But some things that are not included: fees for elective activities like sports or extracurriculars, parking passes (the IRS does not think you need to have a car on campus), or entertainment costs.
6. Most 529 plans offer a combination of cash, fixed income (bonds), and stock based investments. Typically mutual funds or exchange traded funds are not included. Be aware how adjustments in the market will affect your savings. Many offer a "done for you" age based portfolio that adjusts the portfolio's asset allocation to an appropriate risk level as you get closer to needing the funds. A good idea is to check in with your plan at least once a year to see how it is performing. Most plans allow you to change the investment portfolio at least once a year or if you change the beneficiary. Be familiar with how your plan works.
7. If you are thinking about private college, you might want to consider the Private College 529 plan. It is not an investment and it functions much like a "pre-paid" tuition plan. No matter how much tuition increases over the years, or how volatile the financial markets are, you are buying tomorrow's tuition at today's prices in the form of what they refer to as "tuition certificates." The increase in value and distributions are federal tax free when used to pay for college just like other 529 plans. You name a beneficiary when you open your account but don't select a college or university until your student enrolls. The money you save in the plan can be used to pay for the cost of attending over 300 leading private colleges and universities nationwide including top schools like Stanford, Princeton, TCU, Notre Dame, Kenyon, Case Western Reserve, John Carroll, and hundreds more. Essentially, you lock in current rates that can be used at any of the participating colleges and universities when you go. Private College 529 is the only 529 plan not run by a state. Participating colleges and universities own the Plan, and they guarantee the tuition you prepay.
8. Military academies are an amazing opportunity to earn an outstanding education and afterwards serve your country. They are also free if your student commits to serve after graduation. So, what do you do with your 529 money? You always have the option to transfer the beneficiary to another child or even yourself. If not, you can withdraw the funds and avoid the 10% penalty tax. The Military Family Tax Relief Act of 2003 provides that if you attend a U.S. military academy this will be treated as a scholarship for purposes of non-qualified withdrawals from a 529 plan. However, like a scholarship we mentioned in #2, the earnings portion of the account will be taxable.
9. We hope you never have to deal with this one…the death or disability of your 529 beneficiary. In the event of the death of your plan’s beneficiary, you can transfer the beneficiary to another member of the family, or you can elect to authorize a payment to the estate of the deceased. Although subject to federal, state, and local taxes, the earning portion will not be subject to the 10% penalty. If the beneficiary becomes permanently disabled, you may select a new beneficiary or withdraw all or part of the money from the account. Just as in the event of a death, the earnings portion is not subject to a penalty but will be subject to taxes.
10. Don’t limit your 529 thinking to traditional 4-year colleges. You can use your 529 savings at many types of post high school learning institutions like trade schools, community colleges, graduate school, international schools, theological seminaries, or online colleges. Trade schools can include a wealth of different places like cosmetology, culinary, or technical colleges. If you have funds remaining after a 4-year degree, you can continue to use those funds for graduate, medical, or law school among others. About 400 international schools qualify. The IRS keeps a list of eligible institutions. (The current Excel spreadsheet is 6,784 rows long!)
11. And finally, rollovers. You can choose to move your funds from one 529 plan to another, and sometimes you can do so without penalty. If you rollover funds from one plan to another for the same beneficiary, you will not face penalty or taxes. However, you cannot have rolled over funds for that beneficiary within the last 12 months. If you move funds from one plan to another and change the beneficiary, you will face no penalty if that new beneficiary is a member of the previous beneficiary’s family. Be aware if you move money from one state’s plan to another, and you received tax credit on your original deposits, the state may look for you to pay back those tax credits you received. So, be careful when making these changes.
Get all that? Understanding all the ins and outs and finer points of 529 plans can make you a more informed consumer of a college education.