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Your Guide to Using 529 College Savings Plans

When it comes to saving for your child’s future college expenses, 529 college savings plans are one of the most popular options — and for good reason. These plans allow you to tuck away money for future tuition expenses without taking a hit from taxes.

To make the most of this tax-advantaged plan, however, there is a lot to learn, and every state is a bit different in their policies and procedures. To help you get started in deciding if this option is right for you, here’s a rundown on the details about 529 college savings plans.

Plan Options

When choosing the 529 college savings plan, you have two options: prepaid tuition or savings investment plans. While both cover higher education expenses, they go about it in different ways.

Although it is being phased out in many states, the prepaid tuition plan (if available) allows you to pay ahead for college, locking in the current tuition rate. Since tuition rises about three percent every year, this is a great way to make the most of your available funds. Since this option only covers tuition, not other qualified expenses like books, it has fallen out of favor in recent years. Also complicating matters is the fact that the pre-pay plan only allows you to select colleges and universities in your state.

To cover the full gamut of expenses in college, there is the 529 savings investment plan as an alternative. This option allows you to securely tuck money away not just for tuition, but also room and board, books, and fees. The plan also can cover attendance at any college or university, including some out of the country. Up to $10,000 in tuition expenses for private schools at the elementary and secondary school levels can also be covered.

For that reason, the flexibility of the 529 savings investment plan has been steadily winning out over the prepaid option. No matter which one you pick, you will be able to deposit pre-tax funds up to your state’s limit each year.

Investment Strategies

When using tax-deferred 529 college savings plans, there are many different investment strategies to use in helping your balance grow year after year. The age-based strategy is the most popular as it starts out strong and becomes more and more conservative as your child’s college years approach.

If that arrangement does not work best for your finances, however, then customizing it to fit is the best route. You can go with a static contribution each month, for example, keeping the payments the same until your child is ready to go off to college. Alternatively, you can deposit a set percentage of your income, increasing your contributions as your household income levels rise.

Maximum Contributions

529 plans allow taxpayers to put away larger amounts of money, limited only by the contributor’s gift tax concerns and the contribution limits of the intended plan. There are no limits on the number of contributors, and there are no income or age limitations. The maximum amount that can be contributed per beneficiary (the intended student) is based on the projected cost of college education and will vary between the states’ plans. Some states base their maximum on an in-state four-year education, but others use the cost of the most expensive schools in the U.S., including graduate studies.

Multiple individuals can each contribute up to the gift tax limit each year without being subjected to gift tax reporting. This limit is $15,000 for 2019 and 2020, and it is periodically adjusted for inflation. A special rule allows contributors to make up to five years of contributions in advance (for a total of $75,000 in 2019 and 2020).

529 College Savings Plan Fees

While helpful to those saving for college, 529 plans do have some fees to think about, including maintenance and investment charges. Where allowed, in-state deductions can usually offset these fees, keeping account upkeep expenses to a minimum.

If you decide to have a financial advisor help you establish and maintain the plan, you will need to pay for their services as well. Their service fees may be based on an hourly rate or they could charge a percentage of your assets in the fund each year.

Steep penalties can also occur if you elect to withdraw funds for a non-qualified reason. A charge of up to 10 percent can apply to early withdrawals, as the plans are designed to only cover qualified education expenses for the named beneficiary. For that reason, all children will need their own 529 college savings plan, which helps ensure they have money for college, and you are not hit with hefty fees.

Deciding If a 529 College Savings Plan Is Right for You

Since policies can differ greatly from state to state, it is important to look at the features, benefits, and restrictions of the plans offered by your state. The most important differentiators to look at are the minimum contribution levels and tax benefits offered to in-state contributors.

Questions about the implications of 529 plans or other college savings options? Contact our office today for more information.

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