Contribute to 529 plans–it’s never too early or too late to start putting money away for a child’s college education. The education days will be here sooner than you think and likely more expensive than you were planning on! 529 contributions are not limited to parents; this is for grandparents, aunts, uncles or anyone with interest in helping provide the means necessary for a child’s higher education.
What is a 529 plan?
The plans are named after the Internal Revenue Code Section 529. 529s are savings plan with tax advantages that encourage saving for future higher education expenses of a beneficiary. While the beneficiary can be a child or grandchild, a family relationship is not necessary. It is important to note that some states offer two different types of plans: investment plans and prepaid tuition plans.
How do the 529 plans differ?
Investment plans allow for a variety of investment options, but most commonly they are different combinations of mutual funds falling into one portfolio associated with the year the beneficiary will begin college. As the contributor, you get to choose the frequency of contributions, the amount contributed and the portfolio. This type of plan can be used for expenses like tuition, fees, room and board, course-specific fees, books and supplies.
Some states offer prepaid tuition plans which allow you to pre-purchase tuition based on the current price. The benefit of prepaid tuition 529 plans is they allow you lock in for the current tuition rate, which is likely to be subject to increases. The primary use of prepaid plans is towards tuition and mandatory fees. It can still be applied to private or out of state colleges, but be sure to check each states prepaid plan structure.
529 plans have many benefits:
- It is a way to earn money tax-free! If all of the money in the account is spent on qualified higher education expenses, all the investments and earnings will be free from federal taxes.
- Dependent upon the investment chosen, saving $100 a month from birth to age 18 could yield nearly $40,000 due to compounding interest.
- Save money now! Plans are offered by state and may vary slightly depending on the state you choose to enroll in. You don’t have to live in the state that you invest in, but you may receive a state tax deduction if you choose your resident state plan.
- Virginia allows a $4,000 per account per year income deduction. Amounts over $4,000 can be carry-forward to future years. For example, Mr. & Mrs. Smith each open an account for their 2 children and deposit a total of $4,000 to each account. They may reduce their taxable income by $16,000. *If you are over age 70, your contribution deduction amount is not limited.
- D.C. allows a maximum $4,000 individual deduction and a maximum $8,000 deduction for married couples filing jointly provided they open separate accounts. In the example above, Mr. & Mrs. Smith would see a deduction of $8,000 in the current tax year, with the remaining amount being deducted in the following year.
- Maryland allows $2,500 per taxpayer per beneficiary each year. So in the above example, Mr. & Mrs. Smith would be allowed to deduct $5,000 in the current year, with the remaining amount deducted in future years.
- The money invested in a 529 plan is always yours even if the beneficiary does not attend college.
- Even though you are investing in a state plan, the money may be used at nearly any college nationwide.
- Beneficiaries are still eligible for financial aid.
New tax law changes will allow 529 accounts to be used for certain public, private, or religious K-12 tuition costs, up to $10,000 per child per year, beginning in 2018. Rules are still being determined, so be on the look-out for more guidance.
Start now! Use your tax refund, or make automatic monthly contributions to the plan. If you have any questions contact us for assistance!
Written by Melissa Carvajal, CPA; Tax Supervisor