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Making the right year-end moves
December 31 is fast approaching. If you haven't yet completed your year-end 529 housekeeping, now is the time to do it.
The following checklist should help. Please realize that this is not intended as a thorough explanation, and you need to understand the legal, tax, and financial ramifications before implementing any of these suggestions.
1. Make the best use of your gift tax annual exclusion
If you haven't already exhausted your $14,000 gift tax annual exclusions, consider making additional contributions to 529 plans or Coverdell education savings accounts for your children or grandchildren before December 31. The annual exclusion recycles on January 1, so if you don't use your 2014 gift allowance by then, you lose it. One of the most attractive aspects of 529 plans is that your contributions help to reduce your taxable estate, yet you do not give up ownership and control of the money.
Remember to include ALL your gifts when figuring out how much of your exclusion you have left for each of your beneficiaries—not just 529/Coverdell contributions, but cash and property gifts made during the year as well. Count even those 529 contributions generated by your participation in loyalty programs offered by Upromise, Fidelity Investments, and others.
2. Make the best use of the five-year election
If you have a lot of money to sock away for college, you will be interested in the election that allows you to make a contribution of at least $14,001 to a 529 plan for your beneficiary this year, and spread it over five years for gift-tax purposes. A married couple not making any other gifts to the beneficiary during the five-year period can conceivably contribute $140,000 to a 529 plan for each child, and with the election, not run into gift-tax problems.
Since it is so close to the end of the year, you may want to limit your 2014 contributions to a maximum $14,000 per beneficiary, and plan on making the big $70,000 contribution in January 2015. This way, you will have $84,000 in gift-tax free contributions working for you in a 529 plan, instead of just $70,000.
Of course, you can always decide to contribute more than what is covered by your annual exclusion (most 529 plans permit contributions of over $300,000 per beneficiary), but then you will be dipping into your $5.34 million lifetime gift exemption. Speak with your tax advisor first.
3. Claim a state income tax deduction
You have an opportunity for immediate tax savings if you live in one of the 34 states (including DC) offering a full or partial deduction for your contributions to a 529 plan. Six of these states—Arizona, Kansas, Maine, Missouri, Montana, and Pennsylvania—allow their residents to use any state's 529 plan while the remainder permit deductions only for contributions to the home-state 529 plan. Be sure you understand the tax rules in your state: Must your 529 contribution be received by December 31? Must you be the account owner in order to claim the deduction? If you have no room to make further contributions for your child under your annual gift exclusion, can you get the deduction for an account you set up for yourself?
Here's a tip for families with children already in college. You may be able to claim a deduction for your contributions to a 529 plan even when you plan to pull the money back out in short order to pay college bills. Check your state's rules for any restrictions.
4. Consider an investment change
All 529 savings programs allow you to request that your account be reallocated among available investment options once every calendar year. If you do so before December 31, you will have all of next year to make another change if you so desire. If you delay and make your first change in January, you will need to wait at least another 11 months before requesting another reallocation. Remember, you can also change investments any time you change the account beneficiary to another qualifying family member.