Education Or Retirement – Of 529 Plans Four Unique Attributes

529 plans have become a popular way for parents and grandparents who expect their family members to attend and have the ability to save for advanced education.   With new legislation recently passed, this vehicle has even more flexibility.

Recap of current attributes:

Tax – Deferred Growth

Because assets grow tax deferred inside the plan, maximizing early funding opportunities will reap long-term rewards.  A dollar cost averaging strategy, contributing a monthly amount consistently over eighteen years, will help you overcome the inflation inherent in schooling costs.

529 plans qualify for the annual gift tax exclusion.  In 2023, you can gift $17,000 without filing a gift tax return.    You can front- load up to five years of gifts into a 529 plan.   A Grandparent could gift $85,000 front-loaded contributions to a 529 as the generation skipping tax (GST) is looked at in the same way.  If you want to make additional contributions they would count against your lifetime gift-tax exclusion limit.  Talk with your financial planner and  tax advisor if you want to look at these aggressive strategies.

Excluded from Federal Estate tax

Assets are usually included in an individual’s estate where they retain any sort of control.  529 plans are not subject to these rules.  Instead, a 529 plan is seen as an asset of the named beneficiary for estate tax purposes. A 529 plan is a creative way to remove assets from a grandparent’s estate.  If, however, someone had front-loaded five years of gifts and passes away prior to the fifth year of recognized contributions, a prorated amount would be “clawed back” into the donor’s estate.

Change of Beneficiary

What happens if an account was set up for a beneficiary and they chose not to use the funds, didn’t need all the funds, or received scholarships?   One of the features inherent in the 529 plan is the ability to roll an account over without taxation implications to a family member of the initial beneficiary.  This would include a sibling, or stepsibling, parent, stepparent, sibling of the parent, or child of the beneficiary, first cousin or in-laws.

While a 529 plan can be set up for a non-family member and can be front-loaded, keep in mind that if the original beneficiary does not use the funds, any changes need to be based on their family, not the account owner’s family.

New Legislation for consideration:

One of the downsides of the 529 plans was if a beneficiary didn’t use the account and the owner didn’t have anyone they wanted to name as a new beneficiary; the account was subject to a 10% penalty and income taxes on the growth when the account was liquidated. You now have another option!

Roll over to ROTH IRA

529 account owners will be able to roll over up to $35,000 into a beneficiary’s ROTH IRA starting in 2024.  Annual ROTH contribution limits apply, so with the 2023 limit of $6,500, it would take six years to roll the full limit over.  A 529 account needs to be in existence for at least 15 years before you can facilitate a rollover and the funds you want to convert must be in the plan for at least five years.

With the complexities of this particular financial tool, it is important to not only plan, but maintain the ability to pivot.  The best investment you can make is in your own or in someone else’s education.  Life happens and as with other financial tools, a 529 plan can be a creative, strategic tool to help you accomplish your educational and wealth transfer goals, but needs to be managed and modified as those goals take on new hues over time.

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