Dear Dr. Don,
I set up a Section 529 college savings plan for my daughter and directed a portion of those funds (about 50 percent) to be distributed directly to the university she attended. I covered the balance of the tuition from my own pocket, primarily because my daughter had planned to continue on to law school, which she hasn’t done.
I now have a considerable balance in the Section 529 account, and I was hoping to have these funds disbursed to me or my daughter for old tuition expenses incurred during the semesters she was at college. It seems that we’re allowed to go back in this manner, and these were definitely qualified tuition expenses. What are your thoughts, and are there any tax implications?
— Ana Accumulation
Sorry, there’s no going back — meaning you can’t take money out of a Section 529 account now to pay for a past year’s college expenses. While the Internal Revenue Service doesn’t explicitly say this is the rule, the money needs to be disbursed in the tax year that the qualified higher education expenses were paid in order to get the tax benefits of a qualified distribution out of the account.
If she graduated this year, you’ll have some flexibility in recouping what you paid toward her qualified educational expenses this year. Otherwise, you’ll need to look at your options concerning the account.
You didn’t state who the account owner is, but I’m assuming it’s you. It’s clear your daughter was the account beneficiary. You can change the beneficiary to another family member who has education plans that you are willing to finance. The tax implication of such a beneficiary change depends on the account owner’s relationship to the beneficiary. Work with your tax professional if you want to change beneficiaries.
If you close down the 529 account, you’ll owe income taxes plus a 10 percent penalty tax on the account’s investment earnings, though not on the amounts you contributed to the account.
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