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September 12, 2019

The Basics of 529 Savings Plans

As tuition costs continue to rise, contributing to an IRS 529 plan can help offset future expenses. Before enrolling in a 529 plan, it’s important to know who can contribute, how you can use the funds and benefits of the plan.

Who can contribute to a 529 plan?

Almost anyone can open a 529 plan account. Parents and grandparents can open one for their child or grandchild, but other relatives and even friends can open accounts. The account owner will make all decisions associated with the plan such as the investments and assigning beneficiaries. The beneficiary can be a child, grandchild, friend, or even yourself. Per the IRS, to be an eligible beneficiary, the individual must be a U.S. citizen or resident alien with a valid social security number or other taxpayer identification. If the current beneficiary decides to not continue pursuing higher education, or they no longer need the funds in the 529 Plan, the beneficiary may be changed to an eligible family member who can then benefit from the savings plan.

What expenses and schools are eligible?

Money in a 529 plan may be withdrawn tax-free to pay for qualified education expenses at any time. Eligible expenses include:

  • Tuition for elementary, secondary and higher education
  • Room and board for higher education
  • Books for higher education
  • Supplies for higher education
  • Fees for higher education
  • Computers or computer software used while enrolled in an eligible higher education institution

Eligible education institutions include:

  • Elementary and secondary schools (new under the Tax Cuts and Jobs Act)
  • Post-secondary trade schools
  • Vocational schools
  • 2 and 4 year colleges
  • Postgraduate programs

529 plans are typically sponsored by an individual state. Missouri has their own called the MOST 529 College Savings Plan. Although each 529 Plan is state sponsored, the beneficiary may attend any eligible education institution abroad or in the United States.

New Law

Under the Tax Cuts and Jobs Act, 529 plans are available for Kindergarten through 12th grade expenses, in addition to post-secondary education. Distributions for elementary or secondary school are limited to $10,000 per beneficiary per year. There are no annual limits for post-secondary education expenses. If a child attends a public, private or religious school that charges tuition, the child can take distributions from the 529 plan to cover these expenses up to the annual limit. These distributions, including earnings, are tax-free. This is a great way to help cut education costs.

What are the tax benefits of a 529 plan?

Tax-Free and Income Tax Deduction

A 529 Plan can be utilized as a great tax saving tool. Earnings within the plan grow tax deferred and withdrawals for qualified expenses are tax-free. Some states, such as Missouri, also allow contributions to be deducted on a state income tax return as long as the account owner is a resident of that state. Missouri allows a deduction of up to $8,000 for single filers and $16,000 for married joint filers.

Gift Tax

There is also a federal gift tax incentive for 529 plans. An individual can contribute up to $14,000 per year as a single filer and $28,000 per year if married filing jointly without triggering federal gift tax. Another option is to combine 5 years of gifts into one year and contribute a larger sum of $70,000 as a single filer or $140,000 per beneficiary if married filing jointly. This lump sum would avoid gift tax by being treated as being contributed across a five year span. If additional gifts are made to the beneficiary during this five year period, those gifts may incur a gift tax.

Can you use 529 funds for non-qualified expenses?

If a withdrawal is made for non-qualified expenses, the account owner may have to pay state income taxes on a portion of contributions that were previously deducted on the state return. The earnings that are withdrawn may be subject to a 10% federal tax penalty in addition to federal, state, or local income taxes.

To learn more about benefits and enrolling in a 529 plan, contact an Anders advisor.

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