Can You Use a 529 Plan to Pay for Day Care?

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Kathryn Flynn

By Kathryn Flynn

September 10, 2019

Day care is not considered a qualified 529 plan expense. If a 529 plan distribution is used to pay for day care, the earnings portion of the distribution is subject to ordinary income tax and a 10% penalty.

529 plans were originally created to help families save for college. However, the Tax Cuts and Jobs Act of 2017 expanded 529 plan qualified expenses to include up to $10,000 per year in tuition expenses for elementary and secondary schools. Under the new law, costs of day care and preschool are not considered qualified 529 plan expenses. 

How much does day care cost?

According to a 2018 report from Child Care Aware, in 28 states the cost of center-based day care is greater than one year’s worth of tuition and fees at an in-state public 4-year college. Similar to college tuition costs, child care costs have been rising faster than inflation. 

Average annual day care costs vary by state and the child’s age. The average cost of center-based child care in the U.S. is around $11,000 per year for infants, $10,000 per year for toddlers and $8,800 for 4-year old children.

The Child and Dependent Care Tax Credit

Parents may be able to save money on day care costs by claiming the Child and Dependent Care Tax Credit. Eligible families may claim a tax credit of 20% to 35% of a maximum $3,000 in child care and other related expenses for a child who is 12 years old or younger (the dollar limit is $6,000 for two or more dependents). You may also claim the credit if you pay for care for a spouse or other dependent who is incapable of self-care.

To claim the credit for day care expenses, working parents must file IRS Form 1040 or IRS Form 1040NR. The forms require the day care’s name, address and Social Security or Employer Identification Number. You may not claim the Child and Dependent Care Tax Credit for expenses paid to:

  • Your spouse
  • Another dependent listed on your tax return
  • A sibling who is age 18 or younger, whether they are listed as a dependent or not
  • A parent of the child who is being cared for

Benefits of saving 529 plan funds for college

It may be tempting to use 529 plan savings to cover large expenses like tuition at a private K-12 school, but taking distributions too soon could jeopardize your college savings. The longer you invest in a 529 plan, the more time your savings will grow tax-deferred. For example, if you save for 18 years, about a third of your ending balance will come from investment earnings. If you wait to start saving for college until your child is in high school, you’ll have to save six times more per month to reach the same goal.

However, depending on your state, you may be able to qualify for a state income tax deduction or credit based on contributions to your state’s 529 plan, even if you immediately take a qualified distribution. If K-12 tuition is a qualified expense in your state, consider funneling your K-12 tuition payments through a separate 529 plan than the 529 plan you use to save for college. With this strategy, you can get the equivalent of an annual discount on private school tuition. 

Consider redirecting day care money to your 529 plan

Day care is expensive, but it is also temporary. Once your child enters first grade and no longer needs full-time day care, consider increasing your 529 plan contributions. Investments in a 529 plan grow tax-deferred and withdrawals are completely tax-free when the funds are used to pay for qualified education expenses.

You may not be able to redirect your total day care payments if your child will be attending summer camp or after-school care. But, any increase in 529 plan contributions will help you reach your college savings goals sooner and reduce the amount your child will have to borrow in student loans. A smart move is to set up automatic investment plan and increase the contribution amount when your day care costs go down.

A good place to start:

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