Monthly top tips

529 E-ditorials

02-9: Making the right year-end moves
Joe Hurley
Tuesday, November 19th 2002

It's holiday time. Stuff the turkey, shop for gifts, get the fireplace ready-and do your year-end 529 housekeeping.

The following checklist should help. Please realize that this is not intended as a thorough explanation, and you need to understand all possible legal, tax, and financial ramifications before implementing any of these suggestions.

Make the best use of your annual gift tax exclusion

If you haven't already exhausted your $11,000 annual gift 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 2002 gift allowance by then, you lose it.

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 the Upromise, Babymint, and Capital One loyalty programs.

Make the best use of the five-year averaging 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 $11,001 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 $110,000 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 2002 contributions to a maximum $11,000 per beneficiary, and hold off on the big $55,000 contribution until January 2003. This way, you will have $66,000 in gift-tax free contributions working for you in a 529 plan, instead of just $55,000.

Of course, you can always decide to contribute more than what is covered by your annual exclusion (most 529 plans permit contributions of over $200,000 per beneficiary), but then you will be dipping into your $1 million lifetime gift exemption. Speak with your tax adviser first.

Claim a state income tax deduction

You have an opportunity for immediate tax savings if you live in one of the 24 states offering a full or partial deduction for your contributions to the home-state 529 plan. Of course, this presumes you want to invest in your home state 529 plan as opposed to an out-of-state program. (The state tax deduction is one of many possible items to consider while 529 shopping.) Be sure to 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. Investigate whether you can claim the state tax deduction for contributions to your state's 529 plan even when you plan to pull the money out in a month to pay the next tuition bill. If this is possible, you have made your child's college education at least partly tax-deductible for state purposes.

Consider an investment change

Almost 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.

Talk to your tax adviser about losses in your account

You may be able to reduce your 2002 income tax liability by closing any 529 accounts that have lost value. The IRS has not given the thumbs-up to this maneuver, however, so consult your tax professional. [ Update: IRS now confirms this deduction. See Pub 970. ] If the loss is deductible, but only as an itemized miscellaneous deduction, you may find little tax savings depending on your personal tax situation. Beware of other potential problems, too. For instance, what happens if you later contribute the proceeds back into a 529 account for the same beneficiary? This may result in a second gift on the same dollars, which could have tax implications.

Keep financial aid eligibility in mind

Will your child lose financial aid eligibility because of the way your 529 accounts are positioned? There may be a remedy that is both effective and ethical. For example, suppose your child is enrolled in your state's prepaid tuition plan, and he or she will be attending college next fall. Before filing the federal aid application in early 2003, you may want to roll over your investment from the prepaid tuition plan into the state's 529 savings plan. For most families, the savings plan will be treated much more favorably. Be sure to understand the rollover rules if you live in (and have an account with) one of the 18 states offering a prepaid tuition plan.

Break out the midnight oil if your child is attending college

Minimize your tax bill by maximizing your use of the available breaks for families incurring college costs. Tax-free 529 plan and Coverdell withdrawals, Hope and Lifetime Learning credits, and tax deductions for tuition and student loan interest payments all depend to a large degree on proper coordination and timing. It's easy to mess up. The best explanation in my humble opinion is still our 25-page guide, Year End Planning for Education Tax Benefits. Be sure that you and your adviser know these rules.

Lastly, if you've decided to join a 529 plan but have been procrastinating...

In the words of a famous shoe company, just do it.

» 05-4: The 529 marshals have arrived - 08/30/05
» Our 5.29th-year anniversary - 06/29/05
» 05-2: 529s and the new Bankruptcy Act - 04/28/05
» 05-1: Reform or Deform? - 02/27/05
» 04-6: Perspectives on the 529 debate - 12/28/04
» Show All Archives


Reset email successfully sent.
Please check your inbox.