A Complete Guide To The 529 Plan

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You’ve heard of different savings accounts out there, especially for saving for college. For many, it may seem like they’re all coupled with numbers. The 529 plan is no exception. So, let’s answer the most important questions you’ve got:

  • What is a 529 plan?
  • Who needs a 529 plan?
  • Why do you need a 529 plan?
  • How do you get a 529 plan?

This guide will give you answers to all of these questions and more. Keep reading to find out more.

Defining the 529 Plan and Types

The short story is that the 529 plan is a type of account for savings and investments, where invested money continues to grow tax-free, provided that the withdrawals made are for qualified education expenses. The numbers part (529) that you were curious about? It’s because the plan is named after the relevant IRS code section.

There are two different 529 plan types:

  1. 529 College Savings Plans: This is the most common type of plan. Within this plan, invested money continues to grow tax-free. However, you can withdraw money — again, tax-free — for certain educational expenses. These include tuition and fees, textbooks and equipment/supplies, and room and board.
  2. 529 Prepaid Plans: Although not as common, this type of plan is also highly beneficial. With this type of plan, you can prepay part or all of the tuition, locking in the rate at the time of payment. However, there is a catch. The facility must be in-state and public.

As compared to other types of accounts, such as retirement and investment accounts, 529 plans are typically state-operated, making it easier to find the best option. For example, if you get a tax deduction for contributing to a 529 plan in your state, it’s a no-brainer: you’ll get the most benefit for contributing to the state-run plan. However, you aren’t limited to the plan(s) offered by your state. You can choose another 529 plan. So, it’s worth researching options and comparing the benefits. A direct-sold plan is a great option. They are sold by the state, not through an advisor. As a result, you may pay lower fees.

Taxes and Benefits of 529 Plans

There are numerous benefits of engaging in asset management using 529 plans. Some of these are related to the plan itself, and some are related to taxes.

  • Federal Tax Breaks: You can’t deduct the contributions you make. However, the earnings grow federally tax-free. You also won’t be taxed when it’s taken out to pay educational expenses. In 2018, the rules changed, and you can use the 529 plan to cover up to $10,000 in tuition for private, public, or religious schools for elementary or secondary-aged children. This is on a per-year, per-beneficiary basis. In 2019, student loan payments and apprenticeship program costs were deemed as qualifying expenses. In contrast, other savings options, such as mutual funds, will be required to pay annual income taxes and an additional capital gains tax when withdrawn. The tax savings of a 529 plan is part of the Pension Protection Act of 2006.
  • State Tax Breaks: Dependent upon the state you live in, you may get tax breaks at the state-level for your 529 plan. At least 30 states offer at least a partial tax deduction or credit for contributors. Generally, you can claim benefits each year you contribute.
  • Donor-controlled Account: For the most part, the beneficiary doesn’t have legal rights to the account’s funds. This helps you be sure that the funds are used for the purpose for which they were intended. The beneficiary doesn’t take control of the account at a certain age. Although funds can be withdrawn at any time and for any reason unless it’s a qualified withdrawal, an income tax and 10% penalty tax will be incurred.
  • Low Maintenance: This type of plan is great for those that don’t want a ‘hands-on’ plan. You can enroll quickly. Most 529 plans let you set up automatic investments from your bank or through your payroll. Ongoing management is handled by an external investment country or state treasurer’s office.
  • Tax Reporting Simplification: With a 529 plan, you don’t have to report contributions to the federal tax return, and you won’t even get a 1099 form until you start making withdrawals. In 2018, deposits up to $15,000 per individual ($30,000 for married couples filing jointly) per year qualified for the gift tax exclusions.
  • Flexibility: There’s a lot of flexibility in the 529 plan options. For example, you can change your plan twice in a calendar year. You can also roll over your funds from one plan to another once in 12 months. If you change your beneficiary, you can have even more flexibility. Moreover, there are no income limits, age limits, or annual contribution limits. However, there are lifetime contribution limits, which range from about $235,000 to $520,000.

How to Open a 529 Plan

If you’re sold on the 529 college savings account, here’s how to open one:

Step 1: Choose a Plan

Parents and grandparents can contribute to any state plan, not just the state in which they live. So, shop around, but keep in mind the benefit of the state tax deduction (if available) and the requirements to receive it. Otherwise, you want the plan that will help you maximize returns and minimize costs.

Step 2: Decide What Kind of Account You Want

You can get an individual or custodial account. In most cases, the individual account is appropriate, where the donor is the account owner (typically a parent) and the beneficiary is the child. Anyone can contribute to this type of 529 account. The owner of the account should be the one that is responsible for the child’s FAFSA. If the 529 plan is funded from a custodial account, it should be set up to be a custodial 529 plan. This means that the child both owns and is the beneficiary of the account. Until the child is of age, a custodian will manage the account. With the custodial 529 plan, the beneficiary cannot be changed. To receive maximum aid (when warranted), it’s best if the 529 plan is owned by either the student or parent.

Step 3: Complete the Application

Typically, you can do this online, and each plan is likely to have easily-found enrollment buttons. You’ll need the name and personal information about the account owner and beneficiary. You might also need to give information about a successor account owner. Once you’ve given all this information, you might pick an initial investment portfolio.

Step 4: Fund the Plan

Now that you’ve got it, deposit money into it. You can do this by transferring money from your bank account. You may have to send in a voided paper check first. You can also set up automatic contributions at certain intervals from your bank or using payroll deduction. Automatic investment helps you save. You can even roll over funds from another 529 plan, a qualified savings bond, or Coverdell education savings account. There are varying minimum contributions and maximum contributions without incurring additional fees.

Step 5: Choose your Investments.

Once the plan has been opened and funded, it’s time to make selections on investments. The number is limited, so it’s easier to choose. An age-based portfolio is most commonly adopted, where aggressive investments are initially engaged before eventually shifting to a more conservative portfolio. This is especially a good option if you start investing soon after the child’s birth.

UNest Investment Account for Kids

A great choice is UNest because it offers total flexibility. It can be used for anything, education, wedding, first home, or anything else. While the 529 plan is excellent, UNest recognized that parents’ full needs weren’t being met. So, take advantage of the investment account that lets you control your money with five different investing options. Do you think the UNest tax-advantage investment account might be a good option for your kids? Then get started today.

The Takeaway

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A tax-advantaged 529 investment plan can help you save for future education expenses of your kids while saving money on taxes.

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