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How Does a 529 Plan Work?
A 529 plan allows you to set aside money for your child’s college education. These plans are open to everyone with a Social Security number. You can choose beneficiaries other than children if you like. You can also defer taxes. After you’ve set up your plan, you can begin investing and defer tax payments until your child attends college.
Investment Options
Before deciding on an investment option, you should understand the underlying investments and their performance. It would be best if you understood how each investment option affects the overall performance of your 529 plan.
For example, if you have more than one child, it’s better to choose a different investment option for each child. Your older child will have less time to benefit from compound growth and may need a more conservative investment option than a younger child. For these reasons, it’s generally best to open a separate 529 plan for each child.
The investment options in a 529 plan can vary widely. You can choose from mutual funds, exchange-traded funds, and bank products. You can select an age-based portfolio, where investments will automatically shift toward less risky, conservative investments as your child ages.
Ohio’s 529 plan is an excellent example of a 529 plan with several investment options. It includes age-based portfolios, fixed-income portfolios, and individual fund portfolios. There are also age-based portfolios and FDIC-insured banks for the best possible safety of your investments.
Investment options for a 529 plan vary from state to state. For example, Missouri has a 529 Education Savings Plan managed by Ascensus College Savings, which uses Vanguard mutual funds. In Massachusetts, there’s the U.Fund College Investing Plan.
Fidelity manages it, and it offers three age-based investment options. In Michigan, the Michigan 529 Advisor Plan is managed by TIAA-CREF Tuition Financing, Inc. and features age-based and static investment options. Each of these plans has its investment options and fees.
There are tax benefits associated with investing in 529 plans. You may qualify for state income tax incentives, scholarship funds, and protection against creditors if you choose to invest in an education savings plan.
The federal government does not tax the money in a 529 plan if it is used for a qualified educational expense, such as higher education. If you plan on using the money for college expenses, research your options thoroughly with a financial aid professional.
Fees
There are several factors to consider when comparing 529 plan fees. First, a 529 plan’s fees directly affect the performance of your account. Fortunately, fees for 529 plans have decreased significantly since 1996. State treasurers have also been pushing for reductions in 529 plan fees.
Fees for a 529 plan vary by plan, so you should read the terms carefully before signing up. You will also want to find out whether the plan is tax-deductible. If you plan on using the money for college expenses, you may want to keep it invested. However, if you decide to withdraw money for other purposes, you must remember that you may be subject to a 10 percent penalty tax on your earnings.
Another critical factor to consider is the investment portfolio that the 529 plan offers. These plans are often invested in mutual funds or exchange-traded funds. Some even offer principal-protected bank products.
These plans can also include a selection of funds automatically shifting to more conservative investments as the beneficiary approaches college age. In addition to the investment options, a 529 plan may offer a target-date fund that adjusts assets over time to ensure that the account value will grow as the beneficiary approaches college age.
One of the most transparent fee structures is found in New York’s direct-sold 529 programs. This program charges an annual asset-based fee of 0.13%. Unlike many other 529 plans, it doesn’t charge advisor fees or commissions. Moreover, it allows families to set up multiple accounts for their children. Parents can also set up payroll deductions to ensure their contributions are tax-deductible.
Another factor that should be considered is the tax benefits of 529 plans. Contributions to a 529 plan can be tax-free until you begin withdrawing the funds. However, you should carefully read the plan’s details before withdrawing. You can receive a state tax deduction on the earnings if you withdraw the money.
Some plans charge an annual account maintenance fee. Typically, this fee is less than $50. Others may charge more. However, many plans waive this fee if you meet specific criteria.
Tax Deferral
Tax deferral with a 529 retirement account allows you to invest money for qualified higher education expenses. You can also change the beneficiary of your account to another eligible family member. However, knowing that you may have to pay a 10 percent penalty tax if you withdraw the money for non-qualified expenses is essential.
With a 529 plan, your contributions are tax-deferred, and you can take advantage of many federal and state tax breaks.
For example, most states offer a state income tax deduction for contributions to 529 plans, and the tax benefits increase when you fund an in-state plan. Furthermore, some states have a tax-parity provision, meaning that a resident of a particular state can qualify for income tax benefits regardless of the number of funds in their 529 plan.
A 529 plan can be open to anyone, including grandparents, family, friends, and businesses. In addition to individuals, corporations, non-profit organizations, and government entities can also open 529 accounts. The amount of money a family can contribute to a 529 plan is not limited to $140,000; however, the maximum gift is $140,000 for a married couple.
A 529 plan also allows the owner to withdraw leftover funds anytime. However, if the beneficiary dies before he or she reaches the majority age, the withdrawal’s non-qualified portion is subject to tax and penalty. To avoid the consequences of such penalties, it is advisable to review state laws carefully. In addition, 529 plans can be used with a Coverdell education savings account.
While tax deferral with a 529 college savings account does not reduce the cost of college, it can help parents and students pay more for college. A study by Beth Akers found that families with higher income levels were more willing to pay an additional $8,000 per year for a dependent student to attend college.
Using Money From a 529 Plan to Pay for College
Using money from a 529 plan for college expenses can be tax-effective. The account owner must prove that the withdrawals were used for eligible expenses. The plan owner must also provide documentation to prove their claim. While parents cannot view university bills, they can discuss the documentation requirements with their children.
However, using money from a 529 plan for college is not without risks. The parent cannot be sure the child will use the funds for college. The child may not be cut out for college and opt for a cheaper college instead. The money can be used for other purposes as well.
A 529 plan can help pay for college expenses, including off-campus accommodation and meal plans. The college or university will determine the amount allowed for such expenses. The plan can only pay for up to the amount reported by the college as a “cost of attendance.”
Any amount above this amount is considered a non-qualified 529 plan expense. The money can also be used to pay for room and board in a college abroad program, as long as the home college accepts the program as credit.
A 529 plan also provides tax benefits for paying for qualified school expenses. For example, it can help pay for public, private, or parochial school tuition, fees, and textbooks. It can also pay for required coursebooks and supplies.
However, it is essential to consult a tax professional before using money from a 529 plan for college expenses.
Another vital factor to consider when using money from a 529 plan is the account’s beneficiary. The owner can change the account’s beneficiary once a year without incurring taxes. The plan owner can change the beneficiary to a family member or child.
Changing the beneficiary can also be beneficial for younger children. The account balance may be rolled over to another 529 plan if the money is not used for the intended purpose.
While 529 plans do not cover some college expenses, many are. The only restrictions are that the money can only be used for qualified education expenses. For example, in many states, the plan’s beneficiaries can use funds for private elementary or secondary school tuition.
The tax law has also expanded the definition of qualified expenses for 529 plans to include K-12 expenses. However, some states don’t recognize elementary school expenses as education costs. In some cases, the plan can also pay for student loans for the beneficiary.