If you are planning for a child’s future education needs, a 529 is one of the best options available. Any interested party can establish a 529 for a child, as long as the child has a social security number. Typically, it is parents, grandparents or other relatives that establish the 529. For the purposes of financial aid (FAFSA), it is actually a bit better for the parents to serve as the owners of the plan for their children. There are so many great things about these plans, that it is difficult to know where to begin, so allow me to simply list some of the benefits:
- Who can contribute? Once the plan is established anyone can contribute to it: we recommend that you ask your family to make contributions on the child’s birthday or other holiday, and decrease the number of physical gifts given to the child as part of these celebrations. (Parents often tell us that their children don’t need more stuff!) Whoever is established as the owner of the plan makes all the decisions for it, including naming a successor owner, determining the beneficiary, and requesting distributions to cover education expenses. This is usually preferable to an account that a child can gain control of at age 18 or 21.
- So how can the funds be used?
- School tuition, fees and books
- Room and board (but no vehicles)
- Required tools and equipment, etc.
- It can be used for two-year & four-year colleges, graduate schools, vocational schools, etc. The schools need to be U.S. institutions and be eligible for federal financial aid.
- What if your child decides not to attend college? Or perhaps your child receives a full scholarship? You then have the option to change the beneficiary! You can name another child, or any family member in the blood line as the beneficiary of a 529, or even yourself if you decide to return to school. You can also save it for future grandchildren, nieces, nephews, etc.
- You can use 529 funds for private school! As of 2018, you are now allowed to use 529 funds to help pay for primary & secondary private school, if you wish, up to $10,000 per year. But we suggest that you only consider using the funds for that purpose if you have accumulated enough to pay projected college education expenses.
- What are the tax implications? Contributions to a 529 do not receive any type of deduction, but this is where it pays off: If you invest early and regularly in a 529 over a child’s lifetime, all of the growth of the investments (dividends, interest, capital gains and value) is TAX-FREE upon distribution if it is used for education expenses. A lot of compounding can happen in 18 years!
- If NOT used for education expenses, you or the named beneficiary may receive the funds at your request, paying the tax on the growth + a 10% penalty – not ideal, which makes sense, because the purpose of it is to pay for somebody’s education. But even if that happens, the potential for tax-deferred growth over 18 years could be substantial.
How can you set up a 529 Plan? We recommend that you identify a low-cost plan provider such as My529.org (formerly Utah Education Savings Plan) or Vanguard and either invest with some seed money, or set up a regular contribution schedule. You can easily set up a plan on line. For beneficiaries that are age 0-12 or so, we recommend that you utilize an S&P 500 index fund, or something similar, and then gradually reduce the risk as they get closer to college age.
If you have any intention of encouraging children or grandchildren to pursue higher education or vocational training, check into setting up a 529 for them. The 529 offers tremendous flexibility and convenience and has the potential to at least decrease the need for school loans which can create such an immense burden for students and their families.