The Top 9 Benefits of 529 Plans

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July 19, 2022

July 19, 2022

Saving for college using a 529 plan has its pros and cons, but there are a range of advantages to using this type of account, especially when it comes to your tax return. Here are the top nine 529 plan benefits that you should know about.

1. 529 Plans Offer Unsurpassed Income Tax Breaks.

Although contributions are not deductible, earnings in a 529 plan grow federal tax-free and will not be taxed when the money is taken out to pay for college. As of January 1, 2018, tax-free withdrawals may also include up to $10,000 in tuition expenses for private, public or religious elementary and secondary schools (per year, per beneficiary), and in 2019 student loan payments and costs of apprenticeship programs were added as qualified education expenses.

Other savings vehicles, such as mutual funds, will give up a portion of their earnings to annual income taxes and also get hit with a capital gains tax at withdrawal. This has been a huge incentive for Americans to save for college. The tax treatment was made permanent with the Pension Protection Act of 2006.

2. Your own state may offer tax breaks as well.

In addition to the federal tax savings, over 30 states currently offer a full or partial tax deduction or credit for 529 plan contributions. You can generally claim state tax benefits each year you contribute to your 529 plan, so it’s a smart idea to continue keep making deposits until you’ve paid your last tuition bill.

Be sure to research all of your options. If your state doesn’t offer benefits for residents, you can choose any other state’s plan.

3. You’ll Benefit from High Contribution Limits

529 plans have high aggregate limits, and no annual contribution limits, unlike other types of savings plans. Depending on the state you live in, the maximum aggregate limit, or lifetime contribution limit, can range between $235,000 and $529,000. These high contribution limits help you to maximize the tax benefits associated with 529 plans.

4. You Can Use 529 Plan Contributions to Reduce Your Taxable Estate

There are generous limits for 529 plan contributions to be seen as gifts for tax purposes. In 2022, deposits to a 529 plan up to $16,000 per individual per year ($32,000 for married couples filing jointly) will qualify for the annual gift tax exclusion.

Those looking to reduce estate taxes can elect to treat a 529 plan contribution of between $16,000 and $80,000 as if it were made over a five calendar-year period to qualify for the annual gift tax exclusion. This type of accelerated gifting will reduce your personal taxable estate and is unique to 529 plans.

5. You Stay in Control of Your Account

With few exceptions, the named beneficiary has no legal rights to the funds in a 529 account, so you can assure the money will be used for its intended purpose. This differs from custodial accounts under UGMA/UTMA, where the child takes control of the assets once he or she reaches legal age.

A 529 account owner can withdraw funds at any time for any reason – but keep in mind that the earnings portion of non-qualified withdrawals will incur income tax and an additional 10% penalty tax.

A good place to start:

See the best 529 plans, personalized for you

6. These Plans are Low Maintenance

A 529 plan is a very hands-off way to save for education. To enroll, simply visit our Best 529 Plans page and select the plan you like best or contact your financial advisor.

Most plans allow you to ‘set it and forget it’ with automatic investments that link to your bank account or payroll deduction plans. The ongoing investment management of the account is handled by an outside investment company hired as the program manager or by the state treasurer’s office.

7. You’ll Enjoy Simplified Tax Reporting

Contributions to a 529 plan do not have to be reported on your federal tax return. You won’t receive a Form 1099 to report taxable or nontaxable earnings until the year you make withdrawals.

8. 529 Plans are Highly Flexible

You can change your 529 plan investment options twice per calendar year and you can rollover your funds into another 529 plan once in a 12-month period.

Hint: There is no federal limit on the frequency of these changes if you replace the account beneficiary with another qualifying family member at the same time.

9. Everyone is Eligible to Take Advantage of a 529 plan.

Unlike Roth IRAs and Coverdell Education Savings Accounts, 529 plans have no income limits, age limits or annual contribution limits.

Factors That Can Influence 529 Plan Tax Benefits

Keep in mind that there are two kinds of 529 plans: savings plans and prepaid tuition plans. Although each type of plan is treated the same in terms of income taxes and offers the same tax benefits of 529 contributions, there are differences in the qualified education expenses for each.

The qualified education expenses for 529 prepaid tuition plans are generally limited to tuition and fees for participating colleges, and do not usually include grad school.

Qualified education expenses for 529 savings plans include:

  • Full tuition
  • Fees
  • Room and board
  • Books and equipment for college and grad school
  • K-12 tuition up to $10,000 per year

It’s also important to coordinate your 529 account tax benefits against those you receive from similar programs, to avoid doubling up on benefits. It’s always a good idea to consult with a professional tax advisor to make sure you follow all tax regulations and don’t duplicate any benefits.