Assets in 529 savings plans ballooned from $8.5 billion in 2001 to $221.1 billion in 2014, according to data from the Investment Company Institute.
Despite the popularity of the tax-advantaged college-savings vehicle, certain aspects are still misunderstood. Check your knowledge with this 529 quiz.
True or False?
1. You can invest in any state’s plan.
True. You are not limited to your home-state plan. You can invest in any 529 plan from any state, although some plans offer state tax and other benefits to in-state participants. It pays to do your homework.
2. 529s are only for four-year schools.
False. The assets can be used for qualified education expenses at a long list of two-year colleges, trade schools, graduate schools and even some international institutions. Savingforcollege.com offers a useful tool for determining whether the institution you’re interested in is 529 eligible.
3. 529 college savings plan assets can only be used at schools in the sponsor state.
False. You can use 529 plan assets at any eligible school in any state, regardless of whether that state is the one sponsoring your 529 plan. So assets from an Ohio 529 plan, for example, can be used to fund expenses in New Jersey or any other state.
4. There is no income limit on participation.
True. Unlike other savings vehicles, such as IRAs, 529 plans do not limit or prohibit participation based on a high-income threshold. Anyone can invest.
5. If the beneficiary does not attend college, you lose the money.
False. The 529 plan account owner, not the beneficiary, controls the account. This means you can change the beneficiary to another eligible family member (in accordance with plan rules) if the named beneficiary does not require the assets. Notably, there are generally no time or age limitations on use or distribution of plan assets, so the assets can remain in the account and grow in perpetuity.* Worst case, plan assets can be returned to the account owner as a non-qualified withdrawal, but earnings will be subject to ordinary federal, state and local income taxes, as well as a 10% federal penalty.
6. If your child receives a scholarship, you lose the money.
False. Assets can be returned to the 529 plan account owner as a non-qualified withdrawal. While the earnings will be subject to your ordinary income tax rates, the 10% federal penalty would be waived in this instance. Of course, as I noted above, you could change the beneficiary to another eligible family member.
7. 529 plan assets are factored in when determining financial aid eligibility.
True. 529 assets can affect needs-based aid, but the impact is not as significant as some other assets. 529 assets under parental control are assessed at a maximum rate of 5.64% in determining your family’s Expected Family Contribution (EFC) under the federal financial aid formula. In comparison, any investment assets in the student’s name (e.g., UTMA/UGMA accounts) are assessed at 20%.
8. Only parents can establish an account for a child.
False. Anyone can open an account for any beneficiary, child or adult. Many grandparents are choosing to open 529 accounts for their grandchildren, and this can be beneficial from a financial aid perspective since 0% of grandparents’ assets are factored into financial aid calculations.† Another tip: Some diligent planners and savers choose to open an account in their own name prior to having children to get a head start. They subsequently change the beneficiary designation once an heir is born. It is worth noting they will need to take gift taxes into account because they are changing beneficiaries across generational lines.
9. Sorry, only one plan per beneficiary.
False. A single beneficiary can have multiple accounts. This might mean two accounts in the parents’ name or one in a parent’s name and perhaps another in a grandparent’s name in a different state. This can be a useful tool for maximizing state tax benefits, where available. The amount that is eligible for a state tax deduction is subject to an annual cap, so you might want to contribute the max to a state plan first, then invest any excess in another favorite plan to diversify your exposure and spread your investment risk.
10. The child assumes control of the 529 account once he/she starts college.
False. The assets remain in the account holders’ control at all times. There is no age or circumstance under which the assets would automatically transfer to the beneficiary’s control. In fact, as noted above, the account owner can change beneficiaries at any time (e.g., if there are assets remaining in the account after the original beneficiary completes college, or if the intended beneficiary receives a scholarship and does not require the assets).
Whether you aced this quiz or not, my hope is that I might have dispelled some myths about 529 plans and inspired even one more parent to establish an account. As I pointed out in my previous post, Decoding the Real Cost of College, every dollar set aside for college pays off in a big way.
To me, it’s an easy decision. The harder one may be choosing among myriad 529 plan options. I encourage you to work with your financial advisor to identify a plan appropriate for your situation.
Rob Kron, Managing Director, is the head of Investment and Retirement Education for BlackRock’s U.S. Wealth Advisory group. He provides practical information on topics that are important to every saver and investor of every age. You can find more from Rob here.
* Virginia’s 529 plan has a 30-year limitation on use of assets.
† When the money is used to pay for college, there could be an impact on financial aid in the subsequent year. Talk with your financial professional to understand the potential implications.
This material is provided for educational purposes only and does not constitute investment advice. The information contained herein is based on current tax laws, which may change in the future. BlackRock cannot be held responsible for any direct or incidental loss resulting from applying any of the information provided in this publication or from any other source mentioned. The information provided in these materials does not constitute any legal, tax or accounting advice. Please consult with a qualified professional for this type of advice.