asked questions about 529 plans
What is a 529 plan?
It's an education savings plan operated by a state or educational
institution designed to help families set aside funds for future
college costs. As long as the plan satisfies a few basic requirements,
the federal tax law provides special tax benefits to you, the plan
participant (Section 529 of the Internal Revenue Code). 529 plans
are usually categorized as either prepaid or savings, although some
have elements of both. Every state now has at least one 529 plan
available. It's up to each state to decide whether it will offer
a 529 plan (or possibly more than one), and what it will look like.
Educational institutions can offer a 529 prepaid plan but not a
529 savings plan (the private-college Independent 529 Plan is the
only institution-sponsored 529 plan thus far).
Why should I invest in a 529
plan when I can't be sure that my child will attend a public university
in my state?
There's a misconception that state-sponsored 529 plans are only
geared to families that send their children to a state school. That's
just not true. There are two general types of 529 plans: prepaid
programs and savings programs. The states offering prepaid tuition
contracts covering in-state tuition will allow you to transfer the
value of your contract to private and out-of-state schools (although
you may not get full value depending on the particular state). If
you decide to use a 529 savings program, the full value of your
account can be used at any accredited college or university in the
country (along with some foreign institutions). You can look up
eligible institutions here.
Recent tax law changes now permit higher education institutions
to offer their own 529 prepaid programs. These will allow you to
target your tuition prepayment to the sponsoring institution (or
group of institutions). The Independent 529 Plan is the only such
program currently in operation.
What's so great about 529 plans?
You're looking at four main advantages.
First, you get unsurpassed income tax breaks. Your
investment grows tax-deferred, and distributions
to pay for the beneficiary's college costs come
out federally tax-free. Your own state may offer
some tax breaks as well (like an upfront deduction
for your contributions or income exemption on withdrawals)
in addition to the federal treatment. Second, you
the donor stay in control of the account. With few
exceptions, the named beneficiary has no rights
to the funds. You are the one who calls the shots;
you decide when withdrawals are taken and for what
purpose. Most plans even allow you to reclaim the
funds for yourself any time you desire, no questions
asked. (However, the earnings portion of the "non-qualified"
withdrawal will be subject to income tax and an
additional 10% penalty tax). Compare this level
of control to a custodial account under the Uniform
Transfers to Minors Acts (UTMA). Third, a 529 plan
can provide a very easy hands-off way to save for
college. Once you decide which 529 plan to use,
you complete a simple enrollment form and make your
contribution (or sign up for automatic deposits).
Then you can relax and forget about it if you like.
The ongoing investment of your account is handled
by the plan, not by you. Plan assets are professionally
managed either by the state treasurer's office or
by an outside investment company hired as the program
manager. You won't even receive a Form 1099 to report
taxable or nontaxable earnings until the year you
make withdrawals. If you want to move your investment
around you may change to a different option in a
529 savings program every year (program permitting)
or you may rollover your account to a different
state's program provided no such rollover for your
beneficiary has occurred in the prior 12 months.
(There is no federal limit on the frequency of these
changes if you replace the account beneficiary with
another qualifying family member at the same time.)
Finally, everyone is eligible to take advantage
of a 529 plan, and the amounts you can put in are
substantial (over $230,000 per beneficiary in many
state plans). Generally, there are no income limitations
or age restrictions. Thinking about going back to
college or graduate school in the future? Then set
up a plan for yourself!