Starting a 529 Plan is a big part of planning ahead for your child’s future. By starting a 529 Plan, you are able to take advantage of the benefits afforded to you by both your government and the nature of investing itself. So let’s get into what you need to know before starting a 529 Plan!
What is a 529 Plan?
So, what is a 529 Plan? A 529 Plan is an educational investment account created for saving and growing funds to pay for multiple different versions of schooling.
529 Plans are tax-advantaged accounts, which means they are shielded from federal income taxes and are capable of growing tax-free throughout the life of the account. 529 Plans come in a wide variety of options, as each state offers its own version of a 529 plan, with the federal benefits remaining constant among all of them.
Simple: there are two different types of 529 Plans.
There are 529 Savings plans, and then there are 529 Prepaid Tuition Plans. Here is the difference:
- 529 Savings Plans: 529 Savings Plans can be targeted at any expense that qualifies as a valid educational purchase under the guidelines of the 529 Plan. These accounts are much more popular than their counterparts, as they can be used to pay for a much wider variety of expenses besides just school tuition.
- 529 Tuition Plans: 529 Tuition Savings Plans are targeted solely towards the payment of school tuition. This unique account type allows people to pay for the future tuition of a school at its current tuition cost. This advantage lends itself to the beneficiary saving a considerable amount of funds due to the ever-increasing nature of school tuition. A major caveat to this account type is that it remains non-applicable to tuition for schooling from grades K–12.
Who qualifies to start a 529 Plan?
The criteria to start a 529 Plan are as follows:
- Must be a resident of the United States.
- Must be at least 18 years of age or older.
- Needs to have a US mailing address.
- Must have a legal address.
- Must have a Social Security number or legitimate tax ID.
- You must provide the information of both the person opening the account and the beneficiary.
How do I start a 529 Plan for my child?
Easy, there are two different ways to start your 529 Plan, either through the state or through a brokerage. You actually have the ability to select a 529 Plan from any state you choose, although most people tend to stick with their home state.
By going through the States, you will not face with the same fees that a brokerage may charge. Different brokerages charge different fees, but you should expect something like a fee based on the percent of your investments through the account or a flat rate service fee. The state will typically expect a one-time fee for the opening of the account, and this fee varies by state.
How do I contribute to my 529 Plan?
You can send money directly to your 529 Plan through methods such as direct deposit, check, a wire transfer, and almost any other method of sending money. Interestingly enough, there is no yearly cap on contributions to a 529 Plan, but there is an overall contribution cap.
Your contributions are listed under your “annual gift tax exclusion” on your taxes, which allows you to contribute up to 5 years worth of the annual gift tax exclusion to your account at one time, or $80,000 for the total of a 5 year period.
What investments are in my 529 Plan?
Most 529 Plans come with preset investments that remain in place for the life of the fund. These preset investments are likely mutual funds as they are considerably safe investments but also have the potential to grow rather significantly over the life of the fund. The owner of the fund does have the ability to make custom investments for the fund.
If you are considering personally choosing investments for the fund, make sure to compare the expected return rates to those of the optional metal funds. Mutual funds have an incredibly solid track record and are likely to be the best pick for your 529 Plan.
What are acceptable ways to spend funds from my 529 Plan?
529 Plans are really great in that they cover so many areas of education. 529 Plan can cover these types of expenditures:
- Costs of schooling from grades k-12 (up to $10,000 per year)
- Apprenticeships
- Secondary Schooling
- School books
- On campus living
- Off campus living (if at least a half time student)
- Technical School
- Vocational School
What are the tax benefits of a 529 plan?
The primary benefit of a 529 Plan is their tax benefit. These accounts are not held subject to federal income tax (state income tax varies by state) on their earnings as long as the funds from the account are directed towards an expense that qualifies as a legitimate school related expense under the 529 Plan guidelines.
If the funds are spent on something that does not qualify a legitimate school expense, the funds may be subject to federal income tax, state income tax, and an additional 10% federal penalty tax.
Certain states also allow tax deductions (a specific allotted amount) on the funds invested into a 529 Plan. Click here to find out which states offer these deductions.
What if there are funds left in my 529 Plan after paying for college?
If there are funds left after paying for college, you are eligible, in most states, to switch the beneficiary over to some other immediate family such as your other children, per se. These rollovers can be done once per tax year for free. So, don’t worry about trying to squeeze out all your funds in fear of losing them; you’re fine. Realistically, if you are even planning to have an overflow of any type, you are doing great!
