529 Plans: Are they for you?

Between 2010 and 2022, annual college tuition was up 12% on average. That gives higher education the dubious distinction of being one of the highest inflation sectors in the U.S. economy.

And there seems to be no end in sight. Fortunately, there’s a silver lining: 529 plans.

These plans let you save for your child or grandchild’s qualified education expenses and offer some tax and planning estate benefits, too.

Today’s post will dig deeper into the pros and cons of these plans to see if they are for you.

Let’s go!

Pros of 529 Plans

There are a lot of reasons to love 529 plans, but here are some of the biggest.

Tax Advantages

This is one of the best benefits of 529 plans. Contributions to these plans grow tax-deferred, and withdrawals for qualified education expenses are generally tax-free at the federal level. Some states even offer tax deductions or credits for contributions to their respective 529 plans.

Flexibility

529 plans, of course, can be used for qualified college expenses. But they can also be used for some K-12 education expenses, including private school tuition.

But what if little Johnny decides to attend trade school instead of college? If that school accepts federal financial aid, you can probably use 529 funds there. Just be sure to check first.

There are no income restrictions on who can contribute, so tax brackets are no problem. And contribution limits are high. They vary by state, but some go as high as $550,000.

Age limits for the beneficiary are no problem either. So, if your child takes time off between high school and college, they can still use the funds.

And you can change the beneficiary if the new one is a family member.

Estate Planning Benefits

Contributions to 529 plans may also offer estate planning benefits. Under certain circumstances, contributors can make a lump-sum contribution of up to five times the annual gift tax exclusion without triggering gift taxes.

Cons of 529 Plans

Of course, 529 plans have their drawbacks. As the old song says, every rose has its thorns, and 529 plans are no different. Let’s find out about those now.

Investment Options

They can be summed up in one word: limited. So, if you are used to the freedom of picking and choosing your investments, 529 plans will feel restrictive. They may even upend your investment strategy.

Penalties for Non-Qualified Withdrawals

Be careful here. Non-qualified withdrawals incur a 10% penalty, and the rules can change from year to year. Check with your CPA before making a withdrawal.

Limited K-12 Benefits

529 plans are very flexible, but they have their limits, especially when it comes to K-12 expenses. Currently, an account owner can only withdraw $10,000 per year for each K-12 student. So, it may not cover full tuition.

The Bottom Line

Anyone, including parents, grandparents, family friends, and even students over 18, can open a 529 plan. And the flexibility they offer helps cover a wide range of education expenses. But there’s a lot to consider, so it’s best to speak with a tax professional to determine if a 529 or another kind of education plan fits into your overall investment strategy.