While most Americans are acutely aware of the rising costs of education, some are still unfamiliar with the 529 account: a tax-advantaged savings tool designed to help them save for these costs. Here, we explore the most frequently asked questions existing and prospective 529 investors have.
What is a 529 account? Why is it called a 529?
A 529 account is a tax-advantaged investment account designed to help Americans to save for future education costs. The account’s title comes from Section 529 of the Internal Revenue Code, which was established as a part of the Small Business Protection Act of 1996.
Who is eligible to open a 529 account?
Just about anyone can open an account to save for anyone else. The saver can be a parent, grandparent, second cousin twice removed, or even a friend as long as he or she is a U.S. citizen or resident alien age 18+.
Who is eligible to be a beneficiary? Can you open up a 529 account for yourself?
The only eligibility requirement for a 529 beneficiary is that they are a U.S. citizen or resident alien with a social security or tax ID number. Typically, parents or grandparents utilize 529 accounts for their children or grandchildren. However, in cases of continuing higher education such as pursuing a Master’s Degree or Ph.D., students can take advantage of tax benefits by opening up a 529 account for themselves.
Are there contribution limits for 529 accounts?
There are no federal contribution limits for 529 plans. However, after $15,000 per year, a federal gift tax is triggered. Contribution limits are usually set by the state and can even be as high as $500,000.
How and where can 529 savings be spent?
529s aren’t just for your typical 4-year schools; they are also good at community colleges, vocational and trade schools, and even for private K-12 education in given states. 529 account balances can only be used to cover approved expenses which can include tuition, fees, books, supplies, and equipment required for enrollment or attendance at an eligible school, certain room and board costs, certain computer related expenses, and even required expenses for special needs students.
What happens if funds are used for non-approved expenses?
If 529 account funds are used for non-approved expenses, you’ll have to pay taxes on that money, plus a 10% penalty. If you took advantage of a state tax break, you may have to pay that back as well.
What happens to a 529 account if it is only partially used or not at all?
Leftover 529 account funds can be transferred to a family member. However, if you want to withdraw money from the account for anything other than approved education expenses, you will have to pay taxes on that money as well as a 10% penalty. If you took advantage of a state tax, you may have to pay that back as well. If the beneficiary gets a full scholarship to college, the penalty for withdrawing the account balance is waived.
Why should I save in a 529 account versus borrow for my education expenses through a federal student loan program?
Saving for future education with a 529 account allows you to leverage the power of compound interest as well as take advantage of tax benefits. Borrowing money through a federal student loan program can be much more expensive in the long run because, in addition to missing out on tax benefits, additional fees and interest expenses can quickly add up.
Being proactive and using a 529 account to save for future education costs can potentially save you thousands of dollars down the line. For help planning for your child’s education or setting savings goals, check out our College Savings Planner. To learn more about 529 accounts and how to find the plan that’s right for you, visit www.howtosaveforcollege.com.