Following pi day (3/14) and “May the fourth be with you” day (5/4), we’ve now arrived at 5/29, and it’s time to ask – Do you know what a 529 savings account is? Do you care?
In the US, we have the opportunity to save money in a College Savings account, otherwise known as a 529 account. Funds go in after tax, much like a Roth IRA or Roth 401(k), grow tax deferred, and if used for higher education, can be withdrawn tax free. Sounds simple, but as they say, the devil is in the details.
First, let’s be clear, the 529, just like our retirement accounts, is a designation, a box to hold an investment. A 529 is not an investment, but a type of account. The rules on what can be put into it offer a limited selection from any provider. You can’t buy individual stocks, but most providers have an S&P fund as one of their choices. If you choose this fund, keep in mind what your child’s timing is and be sure you plan wisely. Look at our last 15 years of volatility and ask yourself if school were to start the year after a crash, will your account’s value survive or will it be decimated?
Money deposited to the 529 account is treated as a gift to your child, grandchild, or whoever is the beneficiary of the account you are funding. This means that you can gift $14,000 to the account each year with no paperwork. Your partner or significant other can also gift $14,000. A special rule permits a 5 year gifting, i.e. you may gift $70,000 in one year, with no further gifts for the next 4. A great way to jump start the account. A Form 709 must be filled out to declare this gift, but it’s a formality, no tax is due.
At the other end, the account can only be used for higher education expenses. If your child gets a scholarship, there’s likely to be far more money than you’ll need, but that’s really a good thing, right? You then have two choices, you can withdraw the extra money, paying taxes and penalty on the gains, or change the beneficiary to one of the IRS-approved relatives.
One last thought – even though the deposits are not Federally tax deductible, some states do permit a deduction of some part of the deposit. Check out the rules for your state, and Happy 529 Day, all!
(Anyone else note the irony that 401 day is April Fool’s day?)