Right about now young couples across the region are trying to figure out what to do with all the gift money their kids received. Many simply stick it into bonds and savings accounts, but there is a tax-advantaged way to hold on to more of that money — if you intend to use it for college.
529 plans are named after the section in the IRS Code that establishes them. Whereas the holder of a Roth or Traditional IRA has to pay taxes one way or another, a 529 plan is tax-free going in and coming out. Sounds too good to be true? Of course the devil is in the details.
529s take two forms: Prepaid Tuition Plans and Educational Savings Plans.
Prepaid Tuition Plans
- You pay for credits at today’s prices to be used at a later date
- Only some colleges and universities participate
- There is usually a residency requirement; programs vary from state to state
- Cannot be used to pay room and board
- Can be used for tuition and fees
- It’s possible to lose money if the educational institution has a shortfall (some states guarantee your funds)
- For college only
Education Savings Plans
- Investment account with a choice of portfolios
- Portfolios can be adjusted according to goals and the child’s educational progress
- Disbursements may be used at most colleges and universities
- Do not necessarily have residency requirements (varies by state)
- May be used for room and board in addition to tuition and fees
- May be used for K-12 educational expenses
Financial professionals like Trusts and Estates attorneys and Certified Financial Planners (CFPs), are qualified to walk you through the process of selecting the right plan. Other things you will have to consider include whether you prefer a custodial account or an individual 529 — a topic I will tackle next week.