How a 529 Plan Can Help You Save for College and Invest in the Future

tax tips, financial planning

Despite an evolving society, college is still a right of passage for many. We pack the family SUV with suitcases and dreams and take the young hopeful on to their next adventure.

One of the most important investments you can make is helping your kids, and even grandkids, fund their education with a 529 college savings plan. With college costs running double or more than they did 30 years ago and the student loan crisis reaching about $1.6 trillion in debt, every little bit helps.

Let’s look not just at the basics of a 529 plan, but at 529 planning – how this powerful savings tool fits into your overall financial plan and helps you optimize the support you give young people in your life.

529 Basics and Qualifications

A 529 plan is a savings vehicle specifically for education expenses – this usually means college but can mean elementary or secondary school tuition in some states. You can start them at any point and contribute to them throughout the student’s life and even while they are pursuing that education. Growth on the account and qualified distributions are tax-free.

Ideally, you would start a 529 college savings plan when your child is relatively young to maximize earning potential. You can make regular contributions, and relatives can also contribute easily through digital interfaces like Ugift or Gift of College.

For some contributors, a tax deduction comes at the state level. There are currently 30 states that have carved out tax credits or deductions for these contributions. Some states do not have such programs and some states – Alaska and Florida, for example – don’t have personal income tax so the question is moot.

There is no federal tax deduction, so contributions are considered after-tax on that level. Using a 529 plan comparison tool can help you find the right plan for you with the deductions that apply in your area.


Like many financial instruments, qualifications are immensely important when withdrawing from or otherwise moving money in a 529. Qualified expenses for a 529 Plan include:

  • Tuition
  • Room and Board
  • College Fees
  • Textbooks and technology
  • Student loan payments up to a certain amount
  • Some professional apprenticeship programs

And just like other savings vehicles, when you move outside of these parameters you run into taxes and penalties. Only your gains in a 529 are subject to income taxes and a 10% withdrawal penalty for a nonqualified distribution. Any state income tax deductions or credits claimed may be subject to recapture.

Your 529 Plan in the Financial Aid Process

Many of us may remember the FAFSA (Free Application for Federal Student Aid), a pile of pink and white paper we filled out sometime during our senior year and sealed with hope as we sent it off in the mail. Now the process is digital, of course, but one of the things they still ask about is the student’s financial context.

The Expected Family Contribution is an index number established by law that involves your family’s taxed and untaxed income, assets and benefits (i.e., unemployment and Social Security). The number of kids in the family, and how many of them are also attending college, is another contributing factor. Your 529 plan will be considered during the process.

What’s important to realize here is that your aid package is based on your family’s assets, but not those of grandparents or other loved ones. Grandma could have $100,000 socked away in a 529 plan, and it won’t affect your student’s financial aid offering. So if that’s the case, keep grandma as the owner of the plan and the student as the beneficiary – because the financial aid review is looking at only the parents and student.

Distributions for the student from grandma’s 529 plan will be considered on the next FAFSA and treated as untaxed income for the student. Remember that the FAFSA looks at the income from two years before, so payments from grandma should wait until later in college.

Transferring a 529 Plan

Another important out-of-the-box aspect of 529 planning concerns beneficiary transfer. In some scenarios, a student might not use all of their 529 money, thanks to scholarships and the like. The beneficiary of the plan can change without tax consequence if that new beneficiary is within the family – think of older brother finishing school and the plan transferring to younger sister. This beneficiary change is fairly simple and can be done on the plan’s website.

Complexity might arise when the account crosses generations. Let’s say grandma has a 529 plan with her granddaughter as the beneficiary. Granddaughter doesn’t use up all the money in the account, and grandma designates her as the successor owner and then passes away, leaving her granddaughter as owner of the plan. If the granddaughter then names her son as the new beneficiary, it becomes a taxable transfer.

Because the plan beneficiary changed to a family member of a younger generation than the current beneficiary, the beneficiary change is treated as a taxable transfer for gift tax purposes. It’s important to look forward to these changes strategically as much as possible, and discuss with your advisor and college planner how to minimize loss.

529 Plan Rollovers

A 529 college savings plan rollover is one maneuver that can help when plans might have to change hands or generations. The IRS allows one tax-free rollover from a plan per beneficiary per year. If you found a 529 plan you like better, for example, you can rollover your previous plan into that one.

This can be helpful in preparing an estate. If grandparents are getting on in years and have a 529 plan in place for a grandchild, they could transfer the money to a parent’s account in this rollover without losing on taxes or penalties. Keep in mind that it’s per beneficiary, so grandparents could rollover but great aunt and uncle couldn’t do the same thing for the same person the same year.

Investing in the Future

Of course, the motivation behind a 529 plan goes far beyond tax breaks. You want to support a student’s dreams and a hopeful future. Planning intentionally with a 529 can help you optimize that support and make sure the most money goes where it should – to change a young person’s life.

Get in touch today to see how education planning and other details fit into your financial picture!

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This is not intended to provide specific legal, tax, or other professional advice. For a comprehensive review of your personal situation, always consult with a tax or legal advisor.

Before investing, the investor should consider whether the investor’s or beneficiary’s home state offers any state tax or other benefits available only from that state’s 529 Plan.

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