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Other Articles
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Saving for College
Section 529 Savings Plans
By Tim Koenning
Registered Investment Advisor Representative, Magnolia Financial Advisors, LLC
These are state-sponsored college savings plans. Anyone can contribute money on behalf of a beneficiary. Contributions are invested according to options directed by the state.
Pros:
Money can be used for any college in the U.S.
>Can be state tax breaks for contributions.
Tax-free distributions for qualified expenses (tuition, fees, books, supplies, required equipment, room and board) starting in 2002.
Can still claim HOPE and Lifetime Learning Credits as long as the payout from the 529 plan isn’t used for the same expenses for which credit is taken.
Can roll over to another plan once every 12 months for same beneficiary.
Can roll over more often than once every 12 months if changing beneficiaries to another family member. Family members include child, grandchild, sibling, stepsiblings, parents, grandparents, stepparents, nieces, nephews, cousins, aunts, uncles, in-laws, and spouses.
Can gift up to $50,000 a year per child without triggering gift tax (gift assumed to be $10,000 ratably over five years). Effectively removes this money from your taxable estate (if you die within five years, a portion may be included in your taxable estate). If you gift split with your spouse, you can get $100,000 out of your estate without triggering gift tax.
Can contribute to both an Education IRA and a 529 plan starting in 2002, but watch out for gift tax consequences if you contribute more than $10,000 per person in the same tax year.
Can contribute more than $50,000 a year and use increased unified credit ($1,000,000 starting in 2002) to offset the gift tax. Check with each state plan to verify the maximum contribution.
Donor retains control of account. If beneficiary doesn’t go to college, donor can get his/her money back although they would owe tax on the earnings and a 10% penalty.
No earnings restrictions.
Since donor owns these accounts, beneficiary may be eligible for more financial aid than if the child owned the account.
No limited enrollment period.
No date by which the funds must be used.
Some states will allow you to contribute by using your credit card. You may be eligible for rewards from your credit card company (check to make sure there are no monthly caps on rewards. For instance, on some credit cards there is a $10,000 per month reward cap. So in that case, you might want to contribute $10,000 per month for five months to get the maximum rewards.)
Cons:
Must use state chosen investment options.
You could lose money in more aggressive investment options.
Expenses of the plan may be higher than what you’d pay if you invested the money yourself.
A nonqualified withdrawal (used for purposes other than specified education expenses) will be taxed on earnings and will incur a 10% penalty. Exceptions to the penalty include death or disability of the beneficiary or if the beneficiary receives a scholarship.
States may limit contribution amounts.
Since donor owns the account, it may be tapped by Medicaid if the donor should need nursing home care and not have other funds available. All the more reason to have long-term care insurance.
Not all states have protections against donor’s creditors.
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