Established in 1996, 529 plans were designed to encourage tax efficient saving for future college expenses. The Tax Cut and Jobs Act of 2017 expanded how these plans can be used and now allows them to cover up to $10,000 per year, per child for primary and secondary education at private institutions.
While contributions to 529 plans cannot be deducted on federal tax returns, many states allow at least some deductions against state income taxes. Additionally, money earned in these plans is not taxed when withdrawn to pay for qualified educational expenses. Qualified expenses include tuition and fees, books and supplies, and other related educational expenses.
|Type of Expense||Is it a qualified education expense?|
|Tuition and fees||Yes ($10,000 limit per year per child for k-12)|
|Books and supplies||For post-secondary education expenses only|
|Computers and related equipment and services (e.g., internet access)||For post-secondary education expenses only|
|Room and board||For post-secondary education expenses only|
|Special needs equipment||For post-secondary education expenses only|
|Transportation costs||No, costs associated with transportation to and from campus, such as airplane travel or automotive expenses, are not qualified education expenses|
|Health insurance||No, even health insurance policies offered by a school are not considered qualified|
|Student loan payments||No|
In the event that a student receives a scholarship or attends a military academy, money can be withdrawn from the plan, up to the amount of the scholarship, without paying a penalty or taxes. The Military Family Tax Relief Act of 2003 states that attendance at a U.S. military academy will be treated as a scholarship for the purpose of withdrawals from a 529 plan. After that amount has been withdrawn, capital gains would be taxed at ordinary income tax levels, plus an additional ten percent penalty. Furthermore, should money be withdrawn for a reason that does not meet a qualified educational expense or the scholarship exception, it would be subject to the same taxes and ten percent penalty listed above.
Contributions to 529 plans are considered gifts for tax purposes. For 2018, that total is $15,000 per individual. This means a married couple with two children can contribute a total of $60,000 per year without the need to file a gift tax return. In addition to the $15,000 per year limit, individuals can choose a 5-year election and front load the account with up to $75,000.
Also new in 2018, money from a 529 plan can now be transferred to a 529 ABLE (Achieving a Better Life Experience) account up to the limit of $15,000 annually. ABLE accounts are for individuals with disabilities and balances up to $100,000 do not count against eligibility for other state aid programs. Funds in these accounts can be used for any qualified disability expense. These include not only educational expenses, but housing, transportation, employment training, assistive technology and healthcare expenses, as well as personal support services and costs associated with financial management. Other expenses that improve an individual’s quality of life, health, or independence may also qualify. Should the account balance exceed $100,000, Social Security Insurance benefits would be suspended until the balance falls back under the $100,000 limit; however, an individual’s ability to receive Medicaid would not be affected. To be eligible for an ABLE account, an individual must have a significant disability with an age of onset before turning 26. It is important to note that upon the death of the beneficiary, the state may file a claim on the funds in the account in order to reclaim Medicaid related expenses. This is commonly referred to as Medicaid-Pay-Back.
A 529 plan is a great way to save for future educational expenses while taking advantage of various tax benefits. With the new changes in 2018, and the expansion of qualified educational expenses to include primary and secondary education up to $10,000 per year, there is an even greater number of people who can now benefit from them. For those who have a loved one living with a disability, the new rule allowing transfers of money from a 529 plan to a 529 ABLE account offers more options and flexibility and can give some comfort by providing a way to fund both current and future costs and expenses in a tax efficient manner.