Do you ever dream about your children, or perhaps your future children, strutting across a graduation stage at a prestigious university, all smiles and bursting with pride? Or perhaps you envision them mastering the practical skills at a top-notch vocational school, ready to conquer the world. We all want the best for our future generations, but these dreams often come with a hefty price tag—college tuition. Let's face it, the cost of higher education is no small change.
But before the dollar signs spinning in your eyes start making you dizzy, we're here to share some good news. There's a savings superpower called a 529 Plan designed especially to make the journey to higher education more financially feasible.
We've noticed that many parents and parents-to-be have questions about 529 Plans: What are they exactly? Who can use them? Are they right for me? Can they really help make a dent in the daunting costs of higher education? In this guide, we're going to break down the basics, clear up common misconceptions, and address frequently asked questions about this financial tool.
What is a 529 Plan and How Does it Work?
A 529 Plan, named after Section 529 of the Internal Revenue Code, is essentially a tax-advantaged savings plan designed specifically to encourage saving for future education costs. It's like a secret treasure chest where you can stash your gold coins (dollars), invest them in portfolios, and when it's time for college or vocational school, use them to pay for the expenses, all while enjoying some significant tax benefits.
There are two main types of 529 Plans: the prepaid tuition plans and the education savings plans.
Prepaid Tuition Plans allow you to lock in today's tuition prices for in-state public colleges, which can be a game-changer if tuition rates skyrocket in the future. In some cases, these plans can also be converted for use at private or out-of-state colleges. However, they generally do not cover room and board and have limited enrollment periods.
Education Savings Plans , on the other hand, can be used to cover tuition, room and board, mandatory fees, and even certain equipment and supplies needed for college or vocational school. They are more flexible, allowing you to invest your after-tax contributions in various investment options offered by the plan and use your earnings tax-free for eligible education expenses at any qualified school nationwide and even some abroad.
Both types have their advantages and should be considered based on your specific circumstances and risk tolerance.
With a 529 Plan, you—as the account holder—maintain control of the funds, regardless of the beneficiary's age. This means you decide when withdrawals are taken and for what purpose. Plus, if your original beneficiary decides not to attend college or gets a full scholarship (kudos to them!), you can easily switch the beneficiary to another family member, including yourself if you want to pursue further education.
The bottom line? A 529 Plan is a powerful savings tool that gives your money the potential to grow tax-free, while providing flexibility and control over the funds. It's not just a college savings account—it's a financial strategy aimed at making the future of education more affordable.
Can Anyone Own a 529?
Absolutely. Anyone can own a 529 plan and select any beneficiary.
We often hear people say, "Oh, the 529 Plan? That's just for parents with kids, right?" Fortunately, that isn’t the case.
In fact, anyone can open a 529 Plan—parents, grandparents, aunts, uncles, friends, or even prospective students themselves. You can be single or married, young or old, with children or without. There's no income restriction, and you're never too young or too old to start or contribute to one. In other words, if you're considering helping someone—or even yourself—with future educational expenses, you're in the right place.
This means, yes, even if you're single with no children, you can open a 529 Plan for your future child or even for yourself. If you're considering going back to school in the future or pursuing a postgraduate degree, this plan can be a strategic move.
As the account owner, you can name anyone as a beneficiary—even yourself. The beneficiary doesn't have to be a relative. However, if you want to switch the beneficiary later without incurring taxes or penalties, the new beneficiary must be a member of the family as per the IRS definition, which includes spouses, siblings, children, nieces, nephews, cousins, and even in-laws.
Furthermore, you're not restricted to investing in your own state's 529 Plan. You can browse around and choose any state's plan that appeals to you. Some states do offer state income tax deductions or credits for contributions, so it's worth considering your own state's plan, but it's not a requirement. You should compare the investment options, fees, and state tax benefits when choosing a plan.
So, if you were wondering whether you need to have a mini-me running around before you can start a 529 Plan, rest easy. Anyone with a mind toward the future can start saving for education costs with a 529 Plan. It's truly a tool designed for everyone!
Is a 529 Plan Still Valid with a Scholarship?
Yes. Most scholarships are designed to cover only a portion of tuition. A 529 plan makes up the difference. In the event of a full scholarship, your 529 plan can be changed to another family member beneficiary. Acceptable beneficiary changes include:
- First cousin
- Sibling
- Stepsibling
- Another child
- Parent
- In-law
- Grandparent
- Grandchild
- Aunt
- Uncle
There is one stipulation on 529 distribution with a scholarship. The amount you take from your 529 plan can’t exceed the scholarship amount in each calendar year.
Can I Use a 529 Plan with Financial Aid?
A 529 plan is considered an asset of the parent or guardian of the student beneficiary. Financial aid is still a viable option in tandem with a 529, but it will be reduced by 5.64%. If your 529 plan has $25,000 for use, financial aid would be cut by $1,400.
Financial aid is impacted by the holder of the 529 plan. If grandparents open a 529 plan for a grandchild, different rules apply. The 529 contribution isn’t counted on your Federal Student Aid Form (FAFSA) . It is counted as untaxed income instead. This means less aid the following year.
Can I Only Use a 529 Plan Offered in My State?
No. Although 529 plans are state sponsored, you can select any plan from any state. Investing in your own state’s plan has incentives. Some states offer a state tax deduction to residents. Look at each plan carefully. Even with a potential tax deduction, some plans outweigh others.
Your 529 plan can also be used for any school as long as it qualifies under the plan.
Is there a Time Limit on my 529 Plan?
Yes and no. In the lifetime of a single beneficiary, there’s no time limit. The beneficiary can use it for:
- Private school (K-12: state depending)
- Post-secondary
- Graduate school
The limit comes in if you want to skip a generation. For example, if you open a 529 plan with a child in mind but choose to save it for a grandchild instead. If the 529 plan looks like a gift, estate taxes ensue.
The best bet is to check with a financial advisor before making any big decisions or changes. There are ways around much of the fine print in a 529 plan with help from a professional.
Are There Special Rules for a 529 Used for K-12?
Most standard 529 plan rules apply for K-12 use. Some states, such as Colorado, do not allow for 529 funds to be used on K-12 education. For the states that do allow this, the one difference is that a maximum of $10,000 may be used each year. Any 529 use over $10,000 is subject to taxation. This rule applies to all K-12 education, including:
- Private
- Public
- Religious
- Home school
For home-schooled students, 529 plans can be used for a variety of purposes, such as tutors and materials.
Schedule a Call
Still have questions about 529 plans and college savings? The financial advisors at Colorado Wealth Group are here to help. All of our financial planning recommendations are 100% custom to your goals and life circumstances, so we can help decide on the right college savings vehicles for yourself and your family—even if that means it’s not a 529. Reserve a Consult to learn more about your financial planning options for college and beyond today.