This Friday is May 29th, also known as “5/29”. Since we’re discussing the best ways to save and pay for higher education expenses, it seems appropriate to devote this week’s column to 529 college savings plans.
(Unfortunately the ability to make topic tie-ins that are this clever can’t be taught at any college or university).
529 college savings plans are generally administered by each state, with internal investment options managed by mutual fund companies.
You can contribute as little as $25, or as much as tens of thousands of dollars, assuming you adhere to the gift tax exclusion rules available on Form 709 at www.irs.gov.
You can usually deposit money into any state’s plan, on behalf of a beneficiary anywhere, who will eventually/hopefully use the money for qualified higher education expenses at almost any qualifying institution here or abroad.
You usually don’t get any tax break on the contributions to the 529 plans (more on that later), but any subsequent earnings are sheltered from taxation while in the 529 account. If withdrawals are used for qualified expenses at a qualifying institution, there are no taxes on the money when it’s taken out.
Owners of the account usually establish a beneficiary for the funds. However, the beneficiary can be changed at the owner’s discretion, and the owner is under no obligation to hand the money over to the intended beneficiary.
If money is withdrawn from the 529 account without being able to match it to qualified expenses, the earnings on the account will be taxed as ordinary income, and could be subject to a 10% penalty.
Wisconsin residents who make qualified deposits to the state-sponsored Edvest plan can get a small state tax break on the contributions.
Annual deposits of up to $3,100 per beneficiary will reduce the depositor’s state taxable income by an equal amount. For instance, if you are a Wisconsin resident with five grandchildren and make a contribution of $3,100 to each of their 529 accounts, your income in the year of the deposit will be taxed by the state at $15,500 (5 x $3,100) less than what it otherwise would be.
If that’s not confusing enough, you should know that for larger deposits the exemption can be carried forward into future years. In other words, if you make a $10,000 deposit to the Edvest account for one beneficiary, you get to subtract $3,100 from this and each of the future years’ state taxable income, until the $10,000 figure is used up (about 3 ½ years).
The deadline to make a deposit to the Edvest account is April 15th for the prior tax year. So if you want to get a deposit in for the 2015 tax year, you have to make it by April 15th of 2016.
Investing the money
Much like at-work retirement accounts, most 529 accounts offer a menu of different investment options from which to choose.
There are usually stock and bond mutual funds, money markets, and some even have a fixed rate choice.
A fairly popular option offered by many 529 plans is an “age-based” portfolio. This is a mix of stock funds, bond funds, and money market accounts that starts out fairly aggressive (with a larger portion in stock funds) when the beneficiary is young.
Then as the beneficiary ages and becomes more likely to need the money for education expenses, the portfolio gradually and automatically shifts toward more conservative bond, income, and money market funds.
This strategy doesn’t prevent a decline in the account value, but it may make severe declines less likely as it becomes more likely that the money will be withdrawn.
529 owners can generally make changes to investment allocations with new deposits, as well as up to two times per year.
To search for general 529 plan information visit www.savingforcollege.com and www.collegesavings.org. You can get specific investment and tax details on Wisconsin’s Edvest plan by going to www.edvest.com.