529 plan

What Is A 529 Plan And Is It Worth It?

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College is expensive. There is no denying that and with predictions that college costs could double in the next 15 years, it means that now, more than ever, parents need to think about saving for their child’s college fund sooner rather than later. One of the most popular ways to do this is to take advantage of a 529 educational savings plan. But what is a 529 plan and is it worth it? We will explore this in more detail in this post. 

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529 Plan Definition

A 529 plan, legally known as a “qualified tuition plan” is a savings option for parents to take advantage of. You can add your money to it and be assured that there will be no federal tax to pay as your college fund savings start to grow. There are no income limits or other stipulations, so applying for a 529 savings plan is an easy and flexible option to consider.

Each state has a different 529 plan, so even if you live in one state you can pay into a qualified tuition plan in another state if you feel it gives a better return. A little research online will help you to identify the best 529 plans on offer. 

Contributions to a 529 plan are not deductible on federal income tax returns, but they may be deductible on state income tax returns. Withdrawals from a 529 plan are taxed as ordinary income, but they’re exempt from federal and state taxes if used for qualified education expenses. Qualified education expenses include tuition, fees, room and board, books, supplies, and equipment required for enrollment or attendance at an eligible college or vocational school.

529 plans can be used at any eligible college or vocational school in the United States. Some plans can also be used at eligible schools outside the United States.

You can open a 529 account for yourself or for someone else, such as a child or grandchild. The account owner controls the account and decides how to use the money.

When selecting an investment option for a 529 plan, consider your investment objectives, risk tolerance, and time horizon. The longer you have until college, the more time you have to ride out the ups and downs in the market. If you have a shorter time horizon, or if you’re saving for a non-education goal, you may want to consider a different type of investment such as a savings account or certificate of deposit.

Types of 529 Plans

There are two types of 529 plans: education savings plans and prepaid tuition plans.

1. Education Savings Plan

A 529 education savings plan is similar to a retirement account except for education instead of retirement! The funds must be used for education expenses but are not limited to higher education college expenses. You can use 529 plans to pay for Kindergarten through 12th Grade tuition costs and apprenticeship programs. You can also use a qualified tuition plan to pay for up to $10,000 in student loan repayments

2. Prepaid Tuition Plan

With a 529 prepaid tuition plan, you can buy college credits at their current price for future use. Since college tuition rates continue to rise, buying college credits ahead of time can definitely reduce college education expenses.

Benefits of a 529 Plan

There are some incredible benefits to taking advantage of when it comes to taking on a 529 savings plan as a way to save for your child’s college education. Here are a few of the benefits you will experience:

  • Tax breaks

A 529 savings plan works similarly to a Roth IRA by investing after-tax contributions into mutual funds or related investments. Earnings in the 529 savings plan are not taxed and you are also not taxed on withdrawal. 

  • You have control

Another great benefit is that you have control over your funds. Some other savings options won’t give you that luxury. The only stipulation is that the funds just be used for educational purposes. 

  • There are contribution limits

No contribution limits mean that anyone can invest in a single 529 educational savings plan, so if Grandpa and Grandma want to contribute or Aunt Agatha, let them! Individual states may have a maximum contribution limit, but they are usually quite high (>$235,000). 

Disadvantages of 529 Plan

Like with anything there will be some disadvantages to investing in the 529 educational savings plan for your child’s college fund. Here are some of those disadvantages to think about:

  • Less Financial Aid

Some colleges count the 529 funds into the financial aid that is awarded. This might mean that your child receives less financial aid because of the funds that you have saved in your 529 educational savings plan, but the overall impact is usually minimal

  • Fluctuation

A qualified tuition plan does come with risks as the balance can grow or shrink depending on the market.

  • Penalties

There is a 10% penalty for using the 529 funds in a different way. If you decide to withdraw the funds and not use them for education, then there is a 10% penalty tax on the earnings. 

How to Open a 529 Plans

Even though a 529 plan is a state-sponsored savings plan, you can invest in any state’s 529 plan, not just your own state’s 529 plan, so you may want to compare various plans for costs and return of investment. If you don’t have time to compare the various plans and get want to get started with a 529 plan right away, we recommend Backer.

Backer

Backer, an SEC-registered investment adviser, is a social savings platform that helps people create tax-free 529 accounts for their children, provides investment guidance, and allows family and friends to contribute with ease. There is a $5 monthly fee to manage your 529, no matter how much you save, but they will waive the free until your investment starts to grow. For more information, check out Backer.com.

Alternatives to 529 Plans

There are a few alternatives to 529 Plans that you may want to consider.

Coverdell ESA

Coverdell ESAs are similar to 529 Plans in that they can be used for qualified education expenses. However, there are some key differences. With a Coverdell ESA, you can use the money for private school expenses. You can also use the money for expenses other than tuition, such as room and board.

Custodial Roth IRA

With a custodial Roth IRA, you can invest in a wide variety of stocks, bonds, and mutual funds. The money grows tax-free and can be withdrawn tax-free when your child reaches age 59.

Prepaid Tuition Plans

Prepaid tuition plans are another option to consider. With a prepaid tuition plan, you purchase units or credits at participating colleges and universities. The units or credits can be used for future tuition and fees at the participating school.

UGMA/UTMA Trust Accounts

UGMA/UTMA trust accounts are another option to consider. With an UGMA/UTMA account, you can invest in a wide variety of stocks, bonds, and mutual funds. The money can be used for anything, including college expenses.

UNest Investment Account for Kids

UNest, an SEC Registered Investment Advisor, is an easy-to-use mobile app that helps parents save for their kids’ future via tax-advantaged investment plans. The company is gaining strong momentum on the way to becoming a leader in the family savings space. Start with as little as $25/month at UNest.com.

No matter which type of account you choose, be sure to research all of your options carefully before making a decision.

529 Plan FAQs

Here are some frequently asked questions about 529 plans.

What is a 529 plan?

A 529 plan is a tax-advantaged savings plan designed to encourage saving for future education expenses.529 plans, also called “qualified tuition plans,” are sponsored by states, state agencies, or educational institutions and are managed by investment companies.

What are the benefits of a 529 plan?

The main benefit of a 529 plan is that it allows you to save for college without paying taxes on the earnings. Withdrawals from a 529 plan are also tax-free as long as they’re used for qualified education expenses.

What can I use my 529 Plan for?

You can use your 529 Plan for any eligible college or vocational school in the United States. Some plans can also be used at eligible schools outside the United States.

How do I open a 529 Plan?

You can open a 529 Plan through a broker, financial planner, or directly with the investment company.

What should I consider when choosing a 529 Plan?

When choosing a 529 plan, consider the investment options, fees and expenses, tax benefits, and other features of the plans available in your state. You may also want to talk to a financial advisor to see if a 529 plan is right for you.

What is the difference between a prepaid tuition plan and a 529 savings plan?

With a prepaid tuition plan, you pay for college tuition at today’s prices. With a 529 savings plan, you save money that can be used for any eligible college expenses.

Can I change the beneficiary on my 529 Plan?

Yes, you can change the beneficiary on your 529 Plan as long as the new beneficiary is a member of the family of the original beneficiary.

What if my child doesn’t go to college?

If your child doesn’t go to college, you can withdraw the money from the account and use it for other purposes. However, you will have to pay taxes and a penalty on the earnings.

What is the best age to start a 529 Plan?

There is no one “best” age to start a 529 Plan. However, the sooner you start saving, the more time your money will have to grow.

How much should I contribute to a 529 Plan?

There is no minimum contribution amount for a 529 Plan. However, you may want to consider saving as much as you can so that you can take advantage of the tax benefits and growth potential of the account.

Can I use my 529 Plan for room and board?

Yes, you can use your 529 Plan for room and board as long as it is considered a qualified education expense.

Can I use my 529 Plan for expenses other than tuition?

Yes, you can use your529 Plan for expenses other than tuition as long as they are considered qualified education expenses.

What are the tax benefits of a 529 Plan?

The earnings in a 529 Plan grow tax-deferred, and withdrawals are tax-free as long as they’re used for qualified education expenses.

Can I use my 529 Plan for graduate school?

Yes, you can use your 529 Plan for graduate school as long as it is considered a qualified education expense.

Is there a limit on how much I can contribute to a 529 Plan?

There is no annual contribution limit for a529 Plan. However, there may be state-specific limits on the amount that you can contribute.

Can a child have more than one 529 Plan?

There is no limit on the number of 529 Plans that a child can have. However, there may be state-specific limits on the amount that can be contributed to all of the child’s 529 Plans.

What happens if I use my 529 Plan for non-qualified expenses?

If you use your 529 Plan for non-qualified expenses, you will have to pay taxes and a penalty on the earnings.

Can I use my 529 Plan if I get a scholarship?

Yes, you can use your 529 Plan if you get a scholarship. However, you may have to pay taxes and a penalty on the earnings.

What happens to my 529 Plan if my child doesn’t go to college?

If your child doesn’t go to college, you can withdraw the money from the account and use it for other purposes. However, you will have to pay taxes and a penalty on the earnings.

What happens to my 529 Plan if my child dies or becomes disabled?

If your child dies or becomes disabled, you can withdraw the money from the account and use it for other purposes. However, you will have to pay taxes and a penalty on the earnings.

Can I use my 529 Plan for K-12 expenses?

No, you cannot use your 529 Plan for K-12 expenses. However, you may be able to use a Coverdell ESA (covered in the next question) for K-12 expenses.

What is the difference between a Coverdell ESA and a 529 Plan?

Coverdell ESAs can be used for elementary and secondary education as well as college, while 529 plans can only be used for college. Coverdell ESAs also have annual contribution limits, while there are no annual limits on contributions to a 529 plan. Finally, Coverdell account balances must be spent within 30 days of the beneficiary’s 30th birthday, while there is no time limit on when funds in a 529 plan must be used.

Both 529 plans and Coverdell ESAs are great ways to save for college. However, there are some key differences between the two types of accounts. Be sure to research both options carefully before deciding which one is right for you.

What is the difference between a 529 Plan and a Roth IRA?

With a 529 Plan, you can use the money for qualified education expenses tax-free. With a Roth IRA, you can withdraw your contributions tax-free at any time, but you will have to pay taxes and a penalty on the earnings if you withdraw them before age 59.

Can I withdraw money from my 529 Plan if I’m not going to college?

Yes, you can withdraw money from your 529 Plan if you’re not going to college. However, you will have to pay taxes and a penalty on the earnings.

Conclusion

So is it worth it to invest money into a 529 education savings plan or prepaid tuition plan? The truth is that there are a number of advantages to it, and if you are sure that the funds will be used in the right way then it can be very worthwhile to do so. 

Hopefully, this has made you more aware of what the 529 savings plan is and whether it would be worth it for you and your child’s college fund.

What Is A 529 Plan And Is It Worth It