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529 Plans

April 21, 2015

Section 529 plans provide valuable tax-advantaged savings oppor­tunity. You can choose a prepaid tuition plan to secure current tuition rates or a tax-advantaged savings plan to fund college expenses. Here are some of the possible benefits of such plans:

  • Although contributions aren’t deductible for federal purposes, plan assets can grow tax-deferred. (Some states do offer tax incentives, in the form of either deductions or credits.)
  • The plans usually offer high contribu­tion limits, and there are no income limits for contributing.
  • There’s generally no beneficiary age limit for contributions or distributions.
  • You remain in control of the account, even after the child is of legal age.
  • You can make tax-free rollovers to another qualifying family member.

Whether a prepaid tuition plan or a savings plan is better depends on your situation and goals.

Prepaid tuition vs. savings plan

With a prepaid tuition plan, if your contract is for four years of tuition, tuition is guaranteed regardless of its cost at the time the beneficiary actually attends the school. The downside is that there’s uncertainty in how benefits will be applied if the beneficiary attends a different school.

A college savings plan, on the other hand, can be used to pay a student’s expenses at most postsecondary educational institutions. Distributions used to pay qualified expenses (such as tuition, mandatory fees, books, equipment, supplies and, generally, room and board) are income-tax-free for federal purposes and typically for state purposes as well.

The biggest downside may be that you don’t have direct control over investment decisions; you’re limited to the options the plan offers. Additionally, for funds already in the plan, you can make changes to your investment options only once during the year (twice a year, however, beginning in 2015) or when you change beneficiaries. For these reasons, some taxpayers prefer Coverdell ESAs.

But each time you make a new contribution to a 529 savings plan, you can select a different option for that contribution, regardless of how many times you contribute throughout the year. And you can make a tax-free rollover to a different 529 plan for the same child every 12 months.

Jumpstarting a 529 plan

To avoid gift taxes on 529 plan contributions, you must either limit them to $14,000 annual exclusion gifts or use up part of your lifetime gift tax exemption. Fortunately, a special break for 529 plans allows you to front-load five years’ worth of annual exclusion gifts and make a $70,000 contribution (or $140,000 if you split the gift with your spouse). And that’s per beneficiary.

If you’re a grandparent, this can help you achieve your estate planning goals. (See the Case Study “A 529 plan can be a powerful estate planning tool for grandparents.”)

Resource: http://www.webtaxguide.net/LGT/FamilyEducation/index.html#Plans

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