Frequently Asked Questions about Saving for College
What is a 529 savings plan? It is a state-operated college savings plan that allow individuals to save for college by making tax-advantaged contributions to an investment account.
What is a pre-paid tuition plan? Pre-paid plans allow the contributor to lock in the future cost of tuition today. There are two types of pre-paid plans:
- Contract programs. Parents can make a one-time cash payment or agree to a series of payments in exchange for guaranteed tuition and mandatory fees. The contract can cover from one semester to five years. The college sets the amount of the contributions that will be required to lock in the cost for a student who will attend in the future.
- Unit programs. Parents buy a series of units or credits that represent a fraction of the average annual fees and tuition at state colleges and universities. The value of the units is adjusted each year to reflect increases in tuition and fees. Units can be redeemed when your child enters college.
Who owns the account? The person who controls the 529 plan, usually a parent or grandparent, is the account owner. Some plans refer to the account owner as the participant.
Who is the beneficiary? The individual, usually a child or grandchild, who is expected to use the money for college is the beneficiary. Most plans let account owners change beneficiaries.
What are the benefits of 529 Savings Plans?
- Higher Contributions: Contributions to each beneficiary can be as much as $265,000 (of course, the earnings can continue to grow in excess of this amount). Participants can contribute as much as $55,000 ($110,000 jointly) in any single year (one time only) provided they do not make another contribution for the next five years. Best of all, you can get started with as little as $15 per month. Some business owners will even set up an automatic payroll deduction for employees.
- Special Gift and Estate Tax Treatment: The 529 savings plan has powerful estate tax benefits too. All contributors to the fund receive a matched deduction off of their estate, reducing the amount of their estate taxes. Anyone can contribute and receive tax benefits. An added benefit is that 529 accounts are creditor-proof and free of probate.
- Earnings Grow Tax-Free: Just like a Roth IRA, the earnings grow completely free of federal income-tax. You or your child will never be taxed on the earnings for qualified distributions. You may also make withdrawals at any time, in most cases. However, there is a 10-percent penalty on the earnings portion for unqualified distributions and the earnings will be taxed as ordinary income.
- Investment Options: You choose how the money is invested. From aggressive to extremely conservative, the 529 savings plan lets you select from an array of investment subaccounts similar to mutual fund groups managed by some of the largest institutional money managers in the world. Like mutual funds, 529 investment subaccounts are subject to market risks, including fluctuating returns and possible loss of principal.
- Stay in Control: Unlike custodial accounts, the participant stays in control of all the funds, even after the beneficiary is of legal age. There is no age limit on the named beneficiaries or contributors and no time limit on the account. That means money can grow tax-free until you, the participant, are ready to distribute the funds.
- Choose Any School: The 529 savings plan also allows the beneficiary to choose the college or university they want. And, unlike most pre-paid plans, this savings plan pays for practically any qualified education expense, not just tuition.
- Change Beneficiaries at Any Time: The 529 savings plan gives you the power to adjust based on the changing needs of your family. You can change beneficiaries as often as you like, provided they are directly related to the original beneficiary. You may even leave the assets invested in the plan for later use.
- Getting Started is Easy: If you haven't started saving for your child's college education, consider the 529 savings plan. You can even have more than one type of college savings plan or rollover most existing savings plans without penalties.
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