Rising Cost of College Education and 529 Plans

While retirement might be the first thing that many people think of when saving and investing, many of our clients at Marshall Financial Group also talk to us about saving for college. This is understandable since tuition rates increase 8% year-over-year on average. This means that simply putting money in a savings account is not enough to pace with the rising cost of college expenses. Add to that that the average student debt after a 4-year college degree is almost $30,000. Several investment accounts, including the 529 Plan, can help ease the expense of a college education. Here’s what you should know about a 529 Plan.

What is a 529 Plan?

A 529 Plan is a specialty savings and investment account used to save money for college. The money in the account can be used to pay for college tuition, college expenses, and/or K-12 tuition of the beneficiary. Tuition payments are tax free from the account, and other withdrawals for education expenses may be federal income tax free and can sometimes be state tax free as well. The maximum aggregate contribution limits vary per state, and are set on a beneficiary basis.

What are the benefits of a 529 Plan? 

One of the biggest benefits of a 529 Plan is the tax benefit. Qualified distributions from a 529 Plan are entirely tax free. Maryland residents can also deduct a portion of the amount put into the plan from state income taxes, per beneficiary. So if you have three children in Maryland, for example, you can put in $2,500 per beneficiary, for a total of $7,500. You can also spread that deduction out over ten years. The earnings also accumulate on a tax-deferred basis, meaning you pay no taxes on the money while it is in the account.

Another benefit is that while 529 Plans don’t have a contribution limit like some retirement accounts, contributions up to $16,000 per individual per year (or $32,000 for married couple filing joint) qualify for annual gift tax exclusion.

Finally, everyone is eligible to take advantage of a 529 Plan. There is no income limit, age limit, or annual contribution minimum. And the donor is in control of the account. 529s allow the account owner to control the funds until they are withdrawn, which is an advantage over custodial accounts.

What exactly can I pay for with a 529 Plan?

A 529 Plan can be used to pay for tuition and fees. It can be used for up to the full amount for college or vocational school tuition and required fees. This includes more than 400 foreign institutions that are eligible for federal financial aid. A full list of schools available through the U.S. Department of Education’s school code lookup is available from the FAFSA website. 

A 529 Plan can also be used for college-related room and board expenses. Students must be enrolled at least half-time, and living on campus. Students living in apartments or other off-campus housing can use a 529 Plan for room and board if the expenses are equal or less than what the college outlines in its cost of attendance (COA) allowance for room and board for the semester/period. This means students can add up the receipts from any rent, utilities, groceries, or housing related expenses each year until they reach the maximum allowance equal to the allowance for room and board in their college’s COA. You cannot use a 529 plan distribution to pay a mortgage on any residence of the student.

Expenses directly related to college education, including books, supplies, computers, software, and internet access, can also be paid for with a 529 Plan.

Lesser known is the fact that 529 Plans can be used for tuition at K-12 private schools. However, there is a limit of $10,000 annually that can be paid out from the account for K-12 education.

Finally, a 529 Plan can also be used for special needs services. However, if the beneficiary’s special needs qualify as a disability, an ABLE (529A) plan may be more suitable. ABLE accounts can be used for disability related expenses, including medical care, housing, financial management services.

What doesn’t qualify for a 529 distribution?

There are many costs you or your child might incur during college that don’t qualify for a 529 distribution. These include transportation and travel costs (airfare, gas, car), health insurance, college applications and/ or testing fees, extracurricular activity fees (sports, clubs, sorority or fraternity fees), and study abroad tuition or international programs. These are considered non-qualified distributions. This doesn’t mean that you can’t take out money from the account to pay for these expenses, however, they are not tax-free. Non-qualified distributions get taxed at the beneficiary’s rate as well as a tax penalty of 10%, and a recapturing of any of the state incomes tax benefits that attributed to the distribution

A 529 Plan is just one of many ways to save for your child’s college expenses. If you have more questions, don’t hesitate to contact us.

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