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With your normal day-to-day expenses and long-term goals like retirement to think about, saving for your child's education can be challenging. To help families set aside money tax-free for future college costs, the IRS created state-sponsored 529 plans in 1996.
Your local Edward Jones financial advisor is familiar with your state's 529 education savings plans and can help you think through any questions you might have:
Whether you're new to saving for education or have been socking away money for a while, it's a good idea to work with a financial advisor to walk step-by-step through your strategy. The most important thing is to start soon, while time is on your side.
Anyone – at any age – who plans to attend elementary, secondary school and/or college can be the beneficiary of a 529 plan. The account owner, not the beneficiary, controls the account and makes all the investment decisions. And if the beneficiary decides not to attend college, the owner can generally change the beneficiary to another family member.
Grandmas, grandpas, family friends, parents … anyone can contribute to a 529 plan, regardless of income. Contribution limits depend on the state's plan but are typically more than $200,000.The federal gift tax exclusion allows a contributor to give up to $15,000 per year per beneficiary, or $30,000 if you're giving as a married couple. You could also choose to give up to five years of gifts in one year, and that amount is not considered to be a part of your estate for federal estate tax purposes. However, if an electing contributor dies during the five-year period subsequent to the contribution, amounts of the contributions allocable to years after death are includible in the contributor's gross estate.
The 529's earnings accumulate tax-free, and withdrawals are federally income tax-free and penalty-free as long as they are used at an eligible educational institution for qualified education expenses. Some examples of qualified post-secondary education expenses include:
Distributions used for nonqualified educational expenses are subject to ordinary income tax plus a 10% penalty on the earnings.
There's a common misconception that state-sponsored 529 plans are only geared to families who plan on sending their children to a state school, but that's not true. Regardless of the state in which the 529 plan was set up, the distributions can be used at an eligible educational institution in any state. “Eligible educational institutions” are any accredited postsecondary schools that offer classes toward an associate's, bachelor’s, graduate or professional degree. Many vocational institutions and foreign schools are eligible, too.
Qualified Elementary and Secondary School Expenses
Effective January 1, 2018, qualified withdrawals for federal tax purposes have been expanded to include up to $10,000 in tuition, per year, per beneficiary, in connection with enrollment or attendance at public, private, or religious elementary or secondary schools.
Not all states will be recognizing the expanded federal definition of a qualified education expense. Only the federal tax treatment for qualified distributions was changed by the Jobs and Tax Cuts Act (H.R. 1) signed in December 2017. At this time, states are reviewing the impact of the federal tax change to determine whether changes to state legislation are required.1
Some states provide benefits including state tax incentives to residents who invest in their home state's 529 plan. And six states – Pennsylvania, Arizona, Missouri, Minnesota, Montana and Kansas – provide for state tax parity, which means contributions to any state plan are eligible for that state's income tax deduction.
Education savings plans can impact a student's financial aid. Regardless of whether the 529 plan is owned by the parent or the student, it is considered a parental asset, which generally has little impact on financial aid. For more information on your specific state financial aid considerations, talk to your financial advisor.
Financial aid is a complex subject and a financial aid officer should be consulted.
1If you live in a state that does not recognize the expanded use of 529 plan funds for elementary and secondary school tuition expenses and will be required to adopted additional legislation regarding its 529 plan and state income tax incentives, and you withdraw funds before those states recognize the use of 529 plan funds for elementary or secondary school tuition, you may risk having to repay a state tax deduction you've already received, may face state taxes on the investment gains in the account and/or may incur additional penalties. We recommend you consult a qualified tax advisor regarding your situation.
Withdrawals used for expenses other than qualified education expenses may be subject to federal and state taxes, plus a 10% penalty. There may be state tax incentives available to in-state residents who invest in their home state’s 529 plan. Student and parental assets and income are considered when applying for financial aid. Generally, a 529 plan is considered an asset of the parent, which may be an advantage over savings in the student’s name. Make sure you discuss the potential financial aid impacts with a financial aid professional. Tax issues for 529 plans can be complex. Please consult your tax advisor about your situation. Edward Jones, its financial advisors and employees cannot provide tax or legal advice.