What is a 529 Account, and Do I Need One?

If you’re a parent of young children or even thinking about becoming a parent, chances are you’re already worried about how you’re going to pay for their college expenses. And if you don’t yet have a plan in place, you may be wondering what your best savings option is, and whether a 529 is part of that plan.

As with all investment options, 529s have positives, negatives and a few in-betweens. We’ll break down all of these.

First, what is a 529 account?

A 529 plan is an investment account that offers tax benefits when used to pay for qualified education expenses for a designated beneficiary. You can use a 529 plan to pay for college, K-12 tuition, apprenticeship programs and student loan repayments.

Similar to a Roth IRA or Roth 401K, a 529 savings plan invests your after-tax contributions in low-risk investments such as mutual funds.

What are the benefits?

If using a 529 plan to save for college, your savings will have a minimal impact on financial aid eligibility.

Your investment will grow on a tax-deferred basis and can be withdrawn tax-free if the money is used to pay for higher education.

Depending where you live, you may qualify for a state tax benefit if you contribute money to a 529 plan. However, contributions are not deductible from federal income taxes.

Multiple people can contribute to a 529, and other members of your family may want to do so as part of their estate planning, as contributions up to $15,000 per person can be considered gifts to the beneficiary. 529 assets held in a student or parent’s name will receive favorable treatment on the Free Application for Federal Student Aid (FAFSA), and distributions are not reported. However, if a third party, such as a grandparent, owns the account distributions may be considered cash support and can therefore affect eligibility for aid.

Do I need multiple 529s if I have more than one child?

529 plans can be transferred from one beneficiary student to another, but you cannot name multiple beneficiaries to one plan. While having just one plan and transferring it when the next child needs it may make your finances simpler, you may want to consider opening multiple 529 accounts if you have children close in age.

What if my child doesn’t go to college?

If withdrawals on a 529 plan are not used for legitimate education-related expenses, they will result in a 10% penalty tax on the money you take out, as well as federal and state income tax on the earnings.

The IRS waives the 10% penalty for non-qualified withdrawals if the beneficiary receives a tax-free scholarship (ex. ROTC), a service academy appointment, or if the beneficiary dies or becomes disabled.

If that is not the case, and you are still looking to use your 529 funds, you may use them to help pay off student debt in the family, or transfer them to another family member for educational purposes.

How do I set one up?

Before setting up a 529, it is wise to speak to a financial advisor. Our representatives at Service Financial Group can help!

There are many types of 529 plans, including prepaid tuition plans backed by individual states, age-based plans, or static portfolios. Your maximum allotted contribution will also vary by location.

Do your research, but do not fear. With proper planning, a 529 savings plan can help alleviate much stress about your child’s future.