By: Gene Walden March 01, 2018
If you’re thinking of helping your children or grandchildren with education expenses, a 529 Educational Savings Plan may be an option well worth considering.
These plans are sponsored by states or educational institutions and let you set up an investment account to either pre-pay tuition costs at eligible colleges and universities, make tax-deferred contributions (known as a college savings plan) or for tuition in connection with enrollment or attendance at an elementary or secondary public, private, or religious school. Either way, these investment accounts are designed specifically for the qualified educational expenses of the child or future student, who is the beneficiary.
Prepaid Tuition Plans: Most of these plans are sponsored by state governments and require state residency for eligibility. When you open a pre-paid 529 account, in most cases, the money you contribute is converted to units or credits to be used in the future at participating colleges and universities. The credits may be used to cover tuition costs and in some cases, room and board.
College Saving Plans: Money contributed to these state-sponsored plans is not deductible from your current federal taxable income, but earnings within the plan are tax-deferred and may be tax-free when withdrawn, if that money is used to cover eligible higher education costs. Many states also offer state income tax benefits, matching grants or other benefits when you invest in one of these plans from your state of residence.
Finally, those who invest in a college savings plan typically have the option to invest in their choice of several investment portfolios offered by the plan and are permitted to change their investment option once per year (investments in college savings plans that invest in mutual funds and similar investments are not guaranteed by state governments and are not federally insured).
Be aware that regardless of whether you establish a prepaid tuition plan or a college savings plan, it will impact financial aid. It will vary depending on who is the owner of the 529 plan. Financial aid rules change frequently and schools can set their own rules for their own scholarships, so it’s important to continue to monitor the guidelines.
The following chart outlines some of the major differences between prepaid tuition plans and college savings plans:
Differences Between Prepaid Tuition Plans and College Savings Plans
|Prepaid Tuition Plan||College Savings Plan|
|Most plans allow you to prepay tuition at eligible public and private colleges and universities at today's price.
||No lock on college costs.|
|All plans cover tuition and mandatory fees only. Some plans allow you to purchase a room and board option or use excess tuition credits for other qualified expenses.
Covers all "qualified higher education expenses," including:
|Most plans set lump sum and installment payments prior to purchase based on age of beneficiary and number of years of college tuition purchased.
||Many plans have contribution limits in excess of $200,000.|
|Many state plans are guaranteed or backed by state.
||No state guarantee. Most investment options are subject to market risk. Your investment may make no profit or even decline in value.|
|Most plans have age/grade limit for beneficiary.
||No age limits. Open to adults and children.|
|Most state plans require either owner or beneficiare of plan to be a state resident.
||Most plans do not have a residency requirement. However, nonresidents may only be able to purchase some plans through financial advisors or brokers.|
|Most plans have limited enrollment period.
||Enrollment open all year.|
Source: An Introduction to 529 Plans, SEC.gov
While prepaid tuition plans are restricted for use with costs specific to the colleges or universities which sponsor the plans or in the states that sponsor the plans, withdrawals from college savings plans can generally be used at any eligible college or university. College savings plans may also be used to cover the cost of the purchase of most computer technology or related equipment and services, such as Internet access. However, if you withdraw money from a college savings plan and do not use it on an eligible college expense, you will typically be subject to income tax and an additional 10 percent federal tax penalty on any earnings. The distribution may also be subject to state tax, depending on your state of residence.
In addition to college expenses, $10,000 can be used in connection with annual expenses for tuition and enrollment at an elementary, secondary public, private or religious schools.
Contributing to a 529 Plan
Anyone may set up a 529 plan and name whomever they wish as the beneficiary — a relative, a friend, or even yourself. There are no income restrictions for the contributor or the beneficiary.
Total contributions may not exceed the amount necessary to provide for the qualified education expenses of the beneficiary. Contributions to the plan are also considered “gifts” for federal income tax purposes. Although the current amount that you can give to any one person is $14,000, you’re allowed to pre-pay up to five years’ worth of gifts to a 529 plan, or currently $70,000 without incurring the federal gift tax. For more information on 529 contributions, visit the IRS FAQ page.
If all of the money in the 529 plan is not used, you have the option to change the beneficiary to another member of the family1 with no tax consequences. Once a year, you can roll the assets into another plan for the benefit of the same beneficiary or for the benefit of a member of the beneficiary’s family.
Setting Up a 529 Plan
If you’re interested in 529 plans for your children or grandchildren, the Securities and Exchange Commission website has more information. If you’d like help with your research, you may want to talk with a Thrivent Financial Representative. If you’re curious about other educational savings options, make sure to check out our Coverdell Education Savings Accounts (CESAs) or Uniform Transfers to Minors Act accounts (UTMAs), which you can conveniently open online.
Thrivent Financial Representatives are registered representatives of Thrivent Investment Management, Inc. Thrivent Investment Management, Inc. is an SEC-registered investment adviser and broker/dealer, and a member of FINRA and SIPC and a wholly owned subsidiary of Thrivent Financial, the marketing name for Thrivent Financial for Lutherans.
1 Qualified family members include the designated beneficiary's spouse, son or daughter, or a descendant of the beneficiary's son or daughter; the beneficiary’s stepson or stepdaughter, brother, sister, stepbrother or stepsister, father or mother, or ancestor of either parent, stepfather or stepmother, niece or nephew, or aunt or uncle – as well as the spouse of any of those individuals, including the beneficiary's son-in-law, daughter-in-law, father-in-law, mother-in-law, brother-in-law or sister-in-law.
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