Is a 529 plan right for me?

Posted on March 19th, 2013

A 529 plan is an investment plan that allows families to put aside money tax-free and use it to pay for educational expenses later. It might sound like a great idea, but if it’s not the right choice for every family and could actually reduce your eligibility for financial aid later.

Read on to learn about the benefits, drawbacks, and things to consider before investing in a 529 plan.

Benefits of 529 plans

  • Federal tax benefit. Your investment in a 529 plan grows tax-free. When you withdraw money to pay for the beneficiary’s college costs, you do not have to pay taxes on the amount.
  • Possible state tax benefits. Your own state may offer some tax breaks as well, such as an upfront deduction for your contributions in addition to the federal benefits. Check out your state’s benefits here. If you don’t get any benefits from your state, you may still choose another state’s plan. You can also compare different plans’ features.
  • High contribution limits, few restrictions. Everyone is eligible to take advantage of a 529 plan, and for most state plans, you may contribute over $300,000 per beneficiary. Generally, there are no income limitations or age restrictions.
  • Donor controls the account. With few exceptions, the named beneficiary has no rights to the funds. Only the donor can decide when withdrawals are taken and for what purpose.
  • No hassle. A 529 plan can be a “hands-off” way to save for college. Once you choose a plan, you complete a simple enrollment form and make your contribution (or sign up for automatic deposits). Since the investment is handled by the plan, you don’t have to worry about making decisions or monitoring your funds.

    Even if your kids are still in diapers, it’s never too early to start saving for college.

  • Simple tax reporting. You won’t need to report earnings on your investment until the year you make withdrawals.
  • Flexible. If you want to move your investment around, you may change to a different option in a 529 savings program every year, depending on the program. You may also rollover your account to a different state’s program if you haven’t done so already for the named beneficiary in the prior 12 months.

Possible Drawbacks

  • Contributions are not deductible on your federal tax return. Unlike some other types of investments or savings plans, you can’t deduct the money you contribute to the plan on your federal tax return.
  • Must be used for eligible college expenses. With limited exceptions, you can only withdraw money that you invest in a 529 plan for eligible college expenses without incurring taxes and penalties. That means if you need the money for another purpose later, you’ll have to pay taxes, along with an additional 10% tax penalty.
  • Maintenance and enrollment fees. There may be fees associated with maintaining your money in the plan. Expenses will vary based on the type of plan you choose. Some plans will waive or reduce some of these fees if you maintain a large account balance or participate in an automatic contribution plan, or if you are a resident of the state sponsoring the 529 plan.
  • Reduced eligibility for need-based financial aid. Investing in a 529 plan will generally reduce a student’s eligibility to participate in need-based financial aid. They will be treated as parental assets in the calculation of the expected family contribution toward college costs. If you anticipate being eligible for need-based aid, a 529 plan might not be right for your family.

If you decide a 529 plan is right for your family, you can enroll directly with a 529 plan manager or through a financial advisor.

Remember, there are several options when it comes to saving for college. You shouldn’t feel pressured or obligated to use 529 plans or other college savings plans if they are not right for you and your family. If you need help figuring out how to save and pay for school, give us a call at 1-888-234-3907 or check out our tips on affording college.

Category: Financial Aid

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