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COLLEGE SAVINGS 101

Test Your 529 Knowledge Part I
http://www.savingforcollege.com/articles/test-your-529-knowledge-part-I

Posted: 2013-12-19

by Joseph Hurley

Financial Professional Content

A big part of our mission here at Savingforcollege.com is educating financial professionals on the ins and outs of 529 plans so that you can better serve your existing clients and more effectively market your services to potential new clients.

So how well do you think you know your 529 plans? Take this three-question test—the first of an occasional series—and find out. Pat yourself on the back if you answer all three questions correctly.

  1. Regarding 529 plans, what is the largest amount that an individual can contribute for any one beneficiary this year?
    1. $14,000
    2. Somewhere between $200,000 and $500,000 (varies by state)
    3. Over $5 million
  2. You can't really tell how your 529 savings account is performing until the quarterly statements come out because the program management fees have to be loaded in by the plan record-keeper. True or false?
    1. True
    2. False
  3. Why is it usually better in a family with two children to establish a separate 529 account for each of them? (Choose all that apply)
    1. Because the parents will not be able to change the beneficiary once the older child becomes an adult at age 18 or 21.
    2. Because the parents will be able to contribute more funds without exceeding the gift-tax annual exclusion.
    3. Separate accounts will help with their federal financial aid eligibility.
    4. Separate accounts promote family harmony and avoid confusion.
    5. The 529 investments can be more easily tailored to the age of the beneficiary.
    6. 529 plans will waive the annual account management fee for the second account.

Go to the next page for the answers.

1. Regarding 529 plans, what is the largest amount that an individual can contribute for any one beneficiary this year?

  1. $14,000
  2. $70,000
  3. Somewhere between $200,000 and $500,000 (varies by state)
  4. Over $5 million

The correct answer is D.

Many parents and grandparents assume that either A or B is the correct answer because 529-plan contributions are treated as gifts and the gift-tax annual exclusion is currently set at $14,000. That amount can be leveraged to as much as $70,000 with a five-year election.

But nothing prevents the donor from making contributions that exceed the annual exclusion amount. The donor simply needs to know that a gift-tax filing will be required and a portion of his or her lifetime exemption will be consumed. That can be a bit of a hassle, but for most families not financially detrimental since the lifetime exemption is now $5.25 million.

States establish account-balance limits at anywhere between $200,000 and $500,000 per beneficiary when accepting contributions into their 529 plans, and there are no annual contribution limits. So if the limit in State Y is $350,000, and your clients want to start an account for their child with that amount in that state's 529 plan, by all means go right ahead.

So why isn't C the correct answer? It's because the states are not required to count balances in other states' 529 plans when applying their contribution limits. Conceivably, your client could open accounts in 30 different states for the same beneficiary and drop $200,000 into each of those accounts. That would be $6 million in total.

Of course, contributing $6 million to 529 plans for one child is probably not a good idea. Ultimately, the earnings will be subject to ordinary tax rates, plus a 10 percent penalty rate, when withdrawn for non-educational purposes. Also consider the prospect of the IRS coming out with a set of “anti-abuse” rules sometime in the future, and applying those rules retroactively.

So stay within reasonable bounds.

2. You can't really tell how your 529 savings account is performing until the quarterly statements come out because the program management fees have to be loaded in by the plan record-keeper. True or false?

  1. True
  2. False

The correct answer is B (False).

With rare exceptions, the 529 plan record-keeper will determine the net asset value (NAV) for each of the plan's investment portfolios (i.e. “options”) on a daily basis, just as mutual funds will. Program management and administrative fees are loaded in during daily valuation, and the net asset value is then published. Most 529 plans permit account holders to access the current value of their accounts through online access.

Many 529 plans now offer investment options consisting of a single mutual fund or exchange-traded fund. Don't make the mistake of assuming the NAV of the 529 portfolio is the same as the NAV of the underlying fund. They are totally separate figures.

3. Why is it usually better in a family with two children to establish a separate 529 account for each of them? (Choose all that apply)

  1. Because the parents will not be able to change the beneficiary once the older child becomes an adult at age 18 or 21.
  2. Because the parents will be able to contribute more funds without exceeding the gift-tax annual exclusion.
  3. Separate accounts will help with their federal financial aid eligibility.
  4. Separate accounts promote family harmony and avoid confusion.
  5. The 529 investments can be more easily tailored to the age of the beneficiary.
  6. 529 plans will waive the annual account management fee for the second account.

The correct answers are B, D, and E.

Of course, it is possible to establish an account for only one of the children with the intention to move funds to an account for the other child in the future. But separate accounts usually work out better for several reasons.

Answer A is not correct because nothing necessarily happens with a 529 account once the beneficiary reaches adult status under state law. The beneficiary has no rights to the account and the account owner continues to control all aspects of the account, including beneficiary changes.

Answer B is correct because the $14,000 annual exclusion is applied per-donor, per-donee. Contributing to separate accounts in this case will permit up to $28,000 in annual exclusions to be applied, as opposed to $14,000 if the account was established for only one of the children.

Answer C is not correct because the federal financial treatment will be the same whether the parents establish accounts for just one child or for both (assuming the same total amount contributed). All 529 accounts owned by the parents will be reportable as parent assets on the FAFSA aid application, regardless of which child is attending college.

Answer D is correct because choosing just one of the children to be the beneficiary can lead to family disharmony and confusion. How would you like to be a child without a 529 account, only to discover quarterly statements in the mail with your brother's or sister's name on them? (“Why don't my parents want me to go to college?”) Worse yet, the parent suffers a disability or dies, and the family is left to wonder why the 529 accounts were set up with only one child as beneficiary. Avoid these issues with separate accounts for the children.

Answer E is correct because most financial planners see wisdom in tailoring the asset allocation of an investment based on the beneficiary's number of years to expected matriculation. And 529 plans generally find their "age-based" options to be their most popular options. Separate accounts for children of different ages makes more sense under this approach.

Answer F is not correct because few, if any, 529 plans offer a waiver of account maintenance fees just because another account exists for a different family member. In fact, avoiding multiple account maintenance fees is one of the few valid reasons for consolidating 529 funds into one account with the intention of splitting out the account in the future. Thankfully, most 529 plans have eliminated their annual account maintenance fees or else have set them so low and with so many other waivers that they are rarely a significant issue.

Financial Professional Content

A big part of our mission here at Savingforcollege.com is educating financial professionals on the ins and outs of 529 plans so that you can better serve your existing clients and more effectively market your services to potential new clients.

So how well do you think you know your 529 plans? Take this three-question test—the first of an occasional series—and find out. Pat yourself on the back if you answer all three questions correctly.

  1. Regarding 529 plans, what is the largest amount that an individual can contribute for any one beneficiary this year?
    1. $14,000
    2. Somewhere between $200,000 and $500,000 (varies by state)
    3. Over $5 million
  2. You can't really tell how your 529 savings account is performing until the quarterly statements come out because the program management fees have to be loaded in by the plan record-keeper. True or false?
    1. True
    2. False
  3. Why is it usually better in a family with two children to establish a separate 529 account for each of them? (Choose all that apply)
    1. Because the parents will not be able to change the beneficiary once the older child becomes an adult at age 18 or 21.
    2. Because the parents will be able to contribute more funds without exceeding the gift-tax annual exclusion.
    3. Separate accounts will help with their federal financial aid eligibility.
    4. Separate accounts promote family harmony and avoid confusion.
    5. The 529 investments can be more easily tailored to the age of the beneficiary.
    6. 529 plans will waive the annual account management fee for the second account.

Go to the next page for the answers.

1. Regarding 529 plans, what is the largest amount that an individual can contribute for any one beneficiary this year?

  1. $14,000
  2. $70,000
  3. Somewhere between $200,000 and $500,000 (varies by state)
  4. Over $5 million

The correct answer is D.

Many parents and grandparents assume that either A or B is the correct answer because 529-plan contributions are treated as gifts and the gift-tax annual exclusion is currently set at $14,000. That amount can be leveraged to as much as $70,000 with a five-year election.

But nothing prevents the donor from making contributions that exceed the annual exclusion amount. The donor simply needs to know that a gift-tax filing will be required and a portion of his or her lifetime exemption will be consumed. That can be a bit of a hassle, but for most families not financially detrimental since the lifetime exemption is now $5.25 million.

States establish account-balance limits at anywhere between $200,000 and $500,000 per beneficiary when accepting contributions into their 529 plans, and there are no annual contribution limits. So if the limit in State Y is $350,000, and your clients want to start an account for their child with that amount in that state's 529 plan, by all means go right ahead.

So why isn't C the correct answer? It's because the states are not required to count balances in other states' 529 plans when applying their contribution limits. Conceivably, your client could open accounts in 30 different states for the same beneficiary and drop $200,000 into each of those accounts. That would be $6 million in total.

Of course, contributing $6 million to 529 plans for one child is probably not a good idea. Ultimately, the earnings will be subject to ordinary tax rates, plus a 10 percent penalty rate, when withdrawn for non-educational purposes. Also consider the prospect of the IRS coming out with a set of “anti-abuse” rules sometime in the future, and applying those rules retroactively.

So stay within reasonable bounds.

2. You can't really tell how your 529 savings account is performing until the quarterly statements come out because the program management fees have to be loaded in by the plan record-keeper. True or false?

  1. True
  2. False

The correct answer is B (False).

With rare exceptions, the 529 plan record-keeper will determine the net asset value (NAV) for each of the plan's investment portfolios (i.e. “options”) on a daily basis, just as mutual funds will. Program management and administrative fees are loaded in during daily valuation, and the net asset value is then published. Most 529 plans permit account holders to access the current value of their accounts through online access.

Many 529 plans now offer investment options consisting of a single mutual fund or exchange-traded fund. Don't make the mistake of assuming the NAV of the 529 portfolio is the same as the NAV of the underlying fund. They are totally separate figures.

3. Why is it usually better in a family with two children to establish a separate 529 account for each of them? (Choose all that apply)

  1. Because the parents will not be able to change the beneficiary once the older child becomes an adult at age 18 or 21.
  2. Because the parents will be able to contribute more funds without exceeding the gift-tax annual exclusion.
  3. Separate accounts will help with their federal financial aid eligibility.
  4. Separate accounts promote family harmony and avoid confusion.
  5. The 529 investments can be more easily tailored to the age of the beneficiary.
  6. 529 plans will waive the annual account management fee for the second account.

The correct answers are B, D, and E.

Of course, it is possible to establish an account for only one of the children with the intention to move funds to an account for the other child in the future. But separate accounts usually work out better for several reasons.

Answer A is not correct because nothing necessarily happens with a 529 account once the beneficiary reaches adult status under state law. The beneficiary has no rights to the account and the account owner continues to control all aspects of the account, including beneficiary changes.

Answer B is correct because the $14,000 annual exclusion is applied per-donor, per-donee. Contributing to separate accounts in this case will permit up to $28,000 in annual exclusions to be applied, as opposed to $14,000 if the account was established for only one of the children.

Answer C is not correct because the federal financial treatment will be the same whether the parents establish accounts for just one child or for both (assuming the same total amount contributed). All 529 accounts owned by the parents will be reportable as parent assets on the FAFSA aid application, regardless of which child is attending college.

Answer D is correct because choosing just one of the children to be the beneficiary can lead to family disharmony and confusion. How would you like to be a child without a 529 account, only to discover quarterly statements in the mail with your brother's or sister's name on them? (“Why don't my parents want me to go to college?”) Worse yet, the parent suffers a disability or dies, and the family is left to wonder why the 529 accounts were set up with only one child as beneficiary. Avoid these issues with separate accounts for the children.

Answer E is correct because most financial planners see wisdom in tailoring the asset allocation of an investment based on the beneficiary's number of years to expected matriculation. And 529 plans generally find their "age-based" options to be their most popular options. Separate accounts for children of different ages makes more sense under this approach.

Answer F is not correct because few, if any, 529 plans offer a waiver of account maintenance fees just because another account exists for a different family member. In fact, avoiding multiple account maintenance fees is one of the few valid reasons for consolidating 529 funds into one account with the intention of splitting out the account in the future. Thankfully, most 529 plans have eliminated their annual account maintenance fees or else have set them so low and with so many other waivers that they are rarely a significant issue.

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