Annual tuition for a 4-year public college costs around $10,000 on average. For private colleges, tuition is around $33,000. The cost of college goes up to 7-8% per year. This does not include other expenses such as books and dorms. It’s no wonder paying for college remains one of the top concerns for parents.
A 529 plan can help parents pay for college. The basic idea of a 529 account is you invest an amount of money for a certain period of time, and then withdraw from the account to pay for college. The contributions are after-tax but the earnings on your contributions are not taxed.
What is the 529 Plan?
529 is a tax-free savings plan that allows you to save money for your children’s education. The money in your 529 account grows tax-free and can be withdrawn to pay tuition for college, and private school (kindergarten through twelfth grade). You can also spend money from your 529 account on other eligible expenses such as books, school fees, supplies, room and board for a full-time student.
529 plan also allows you to withdraw up to 10,000 tax-free to repay education loans. If you have two beneficiaries, you can withdraw a total of $20,000. The $10,000 limit is a lifetime limit per person.
Who Can Open A 529 Account?
A parent, grandparent, or even a friend can open a 529 account and can name a child as the beneficiary. 529 plans have no income or age restrictions. The maximum contribution limit varies by state but is usually around $300,000.
Who Controls How Money Is Spent?
The owner of the 529 account controls how the money is spent. The child cannot direct how the money is spent. You can sleep well knowing that your child cannot spend your 529 funds on fancy cars or exotic vacations.
Owners can also change beneficiaries. This is especially useful if the named beneficiary chooses not to go to college.
529 plans offer many investment options. You may be offered 1) conservative, moderate or aggressive portfolio, 2) investment options based on age or 3) an option to build your own portfolio.
529 plans allow you to change your investment options twice a calendar year or when you change beneficiaries. You can also roll over your 529 savings onto another college savings plan.
You are not limited to investing in your own state’s plan. In fact, you can invest in a plan of any state. Also, what state you invest in has no impact on where your child can go to school. One thing to consider when you invest in an out-of-state plan is the fees – some states charge additional fees for non-residents.
What If You Don’t Use The Money
Let’s say that your child gets a college scholarship and you use only part of the 529 account or none at all. What happens to the money? You can transfer the money to another beneficiary. You can even make yourself the beneficiary if you want to further your own education. If that’s not an option for you, you can take the money out of the 529 account but you will pay a 10% penalty and ordinary income tax on the earnings (only the earnings, not the entire distribution from the 529 account).
The penalty is waived if your child receives a tax-free scholarship, attends a U.S military academy or becomes disabled.
Contributions Are Not Tax Deductible For Federal Taxes
Contribution to a 529 plan is not deductible from federal income taxes. But if you invest in your own state’s plan, your state may allow you to deduct your contributions from state income tax or offer you state income tax credits.