The Internal Revenue Service (IRS) defines a 529 plan as one “operated by a state or educational institution, with tax advantages and potentially other incentives to make it easier to save for college and other post-secondary training for a designated beneficiary, such as a child or grandchild.”
By definition, a 529 plan is an easier way for families to save for college, but what other benefits do they hold?
They are tax-free
Savings accounts of the 529 variety grow federal and state income tax free. Not only that, but all withdrawals used for qualified higher education expenses are exempt from federal income tax as well. Many states exempt withdrawals from state income tax for qualified higher education expenses as well. Furthermore, reporting a 529 for tax purposes is very simple — you won't receive a Form 1099 to report taxable or nontaxable earnings until the year you begin making withdrawals.
They are financially efficient
Yes, $70,000 in savings without the tax exemption would only garner you about $55,000, according to the College Savings Plans Network, but the tax benefits are but one reason 529 plans are more fiscally responsible. First, many states also offer low-cost options that can be opened by contacting the plan provider directly. A 529 plan is also offered through professional financial advisors who can help you choose a plan and an investment strategy to meet your needs. Also, most plans have a very low minimum monthly contribution limit, making them a respectable option for families of all income levels. Some states have minimum limits as low as $15 a month.
On the other side of the coin, maximum contribution limits range up to $300,000-plus (keep in mind, this is all untaxed and able to be used toward a loved one’s education). Additionally, those pesky “gift taxes” don’t even come into play unless a contribution exceeds $70,000, as five years of the annual gift tax exclusion can be used in one year.
Finally, all assets saved within 529 plans are protected in the event of bankruptcy, and they are even treated favorably when considered in the formula for financial aid eligibility.
They offer educational freedom
Money collected as part of a 529 plan can be used at virtually any accredited college in the country. It can be used to pay for tuition, fees, room, board, books, supplies and other required equipment such as computer technology.
They’re convenient and flexible
The main reason investors love 529 plans is for their overall practicality. Contributions can be made through payroll deductions or automatic bank transfers. From there, they are a very “hands-off” way to save toward college. You just fill out a simple enrollment form, and then the ongoing investment of your account is handled by the plan provider, not by you. Plan assets are professionally managed either by the state treasurer's office or by an outside investment company hired as the program manager.
Plus, you never have to worry about whose “name” the account is in. The account holder retains control of the assets within the program, regardless of beneficiary's age, and the beneficiary can be changed at any time to another member of the beneficiary's family.
As you can see, 529 plans are a great way to encourage early and consistent savings by offering affordable and expedient savings options.
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