Benjamin Franklin once said, “An investment in knowledge always pays the best interest.” Admirable in theory, but with college costs on the rise and student loan debt reaching unprecedented levels, many parents and grandparents are grappling with when and how to start investing in a child’s education. Fortunately, there’s a savings vehicle to help families realize the full value of this vital investment: 529 plans.
Offering advantageous tax breaks and flexibility, 529 plans provide families and individuals a clear savings strategy for higher education. A recent study from Edward Jones found 29% of Americans know what a 529 plan is, and only 13% of respondents are utilizing 529 plans as an education savings strategy. College isn’t cheap, and this lack of understanding can lead to steep debt upon graduation.
With graduation season upon us, it should serve as a reminder to families and individuals with family members anticipating furthering their education beyond high school to explore this savings vehicle and its benefits. Outlined below are five reasons why 529 plans may offer the most flexible and financially advantageous way of saving for college for your family:
1. Accounts grow tax-deferred. The tax benefits of 529 plans are robust, and offer growth opportunities far superior to a typical savings account. For qualified expenses such as tuition, books or room and board, withdrawals from the plan are federally tax-free. Many states offer a deduction for those making contributions to the plan, and come tax-season, minimal reporting is required unless a withdrawal is taken from the account.
2. Assets can be used at any post-secondary institution, nationwide. 529 distributions are accepted at any post-secondary institution with a student aid program through the U.S. Department of Education, including four-year universities, community colleges and vocational schools. As a result of the 2017 tax reform legislation, 529 assets may also be used for elementary or secondary school tuition up to $10,000 per year, per student. If a student receives a scholarship, distributions may be taken up to the scholarship amount penalty free but will be subject to income tax on the earnings portion.
3. Savings requirements are less restrictive than Coverdell ESAs. 529 plans have no income or age limits. Coverdell Education Savings Accounts (ESAs), however, are only available for low to middle-income families, and annual contributions are capped at $2,000 per year. Funds in the account must be used by age 30, which can be problematic for those pursuing law or medical degrees. Unlike ESAs, 529 plans allow investors the opportunity to grow their savings contributions in tandem with their personal wealth.
4. Deposits can be made by anyone. Friends, grandparents or other family members can also contribute on a tax-advantaged basis. Deposits of $15,000 per individual, per year qualify for the gift tax exclusion. An individual can also dodge the gift tax by contributing five years’ worth of contributions in the current year. Lifetime contribution limits vary by plan, but range from $235,000 to $520,000. The owner retains control over the account, unlike ‘Uniform Gift to Minor’ and ‘Uniform Transfer to Minor’ accounts.
5. Beneficiaries can change. If the account is not used by the current beneficiary, the owner can change the beneficiary without federal income tax consequences – provided they are an eligible member of the current beneficiary’s family. This will alleviate worries if a child decides not to pursue higher education, as the savings can go towards the education of a sibling or other family member. Compared with custodial accounts, this is an advantage unique to 529 plans.
While you can’t put a price on a quality education, contributing to a 529 plan will help to “pay the best interest” on behalf of your family in the long-term. Building up the beneficiary’s account from a young age will lessen the burden of debt upon graduation, leaving them college-educated, financially competent and well-positioned on the path to financial freedom.