Invest in your child’s future with a 529 plan.
Key takeaways:
- 529 Plans allow your money to grow tax-free, with many states providing additional tax breaks for contributions.
- Contributing just $100 a month into a 529 Plan with a 5% annual return for 18 years could result in $35,400, demonstrating the power of tax-free compound interest over time.
- While 529 Plans offer flexibility to change who receives the money and where it can be used, withdrawals for ineligible expenses can be costly.
Planning for your child’s educational future has never been more important. With college costs more than doubling link opens in a new window in the past 20 years, setting money aside for educational expenses is essential to securing access to college and avoiding student loan debt. A 529 Plan offers one of the most effective ways to build education savings while enjoying significant tax advantages.
Understanding 529 Plans.
A 529 Plan is a state-supported savings account designed to help families save for future educational expenses. You can choose from two types of 529 Plans:
College Savings Plan – Functions like a 401(k) or IRA, where you put money into investment accounts, typically in age-based portfolios that become more conservative as your child approaches college age.
Prepaid Tuition Plan – Allows you to prepay some or all costs for an in-state public college education at today’s prices. A private college 529 Plan option can also be applied to participating private colleges.
Keep in mind that not every state has a prepaid plan. Speak with a tax advisor to learn about your options and help with choosing the best plan for you.
Key benefits of 529 Plans.
Less than half link opens in a new window of Americans are aware of 529 Plans or the financial benefits that make them an excellent option for educational savings. Such benefits include:
- Tax-free growth and withdrawals – You won’t have to pay federal income tax on account withdrawals if you use them for approved educational expenses. This offers a significant advantage over other savings tools like mutual funds, which are taxed on profits when you take money out plus annual income taxes on account growth.
- No federal annual contribution limits – While contributions are considered completed gifts for federal tax purposes (with 2025 annual gift tax exclusion limits of $19,000 link opens in a new window per donor, per beneficiary), there are no federal caps on how much can be contributed annually to a single 529 Plan. State plans may have contribution limits.
- Professional management – After you sign up, the investment company takes care of managing the account. You can set up automatic contributions, making it easier to save for your child’s future without interruption.
- State options – You can choose a plan from any state, not just your state of residence. Nearly 40 states link opens in a new window offer income tax deductions or credits for 529 Plan contributions. However, most require contributions to an in-state plan to qualify for state tax benefits link opens in a new window.
- Investment flexibility – Most plans allow you to change investment options up to twice a year and move money to another plan once a year. This lets you respond to market conditions and your family’s changing needs. You can also designate a different qualifying family member to receive account funds if your child’s educational plans change.
5-Year rule for maximum tax benefits.
Understanding the 5-year rule can save you from unexpected taxes and penalties when using your 529 funds for education expenses. This special rule lets people contribute a lump sum of money into the plan without having to pay taxes on it. You can give up to five years’ worth link opens in a new window of contributions in a single year (up to $95,000 per beneficiary in 2025) without triggering gift taxes, as long as you don’t make additional gifts to that beneficiary for the next five years.
Important 529 Plan limitation.
Before investing in a 529 plan, you should know that your money can only be used for qualified educational expenses unless they are rolled over to an eligible Roth IRA account link opens in a new window. Unapproved withdrawals face both income tax on earnings plus a 10% penalty link opens in a new window on the earnings portion. Some states impose extra penalties, though exceptions may apply in certain circumstances.
529 Plan FAQs
Can I use 529 funds for things other than tuition at a traditional 4-year college?
Yes! 529 plans are much more flexible than many people realize. You can use these funds for various educational expenses link opens in a new window throughout life:
- K-12 Education: Use up to $10,000 annually per beneficiary for tuition at public, private, or religious elementary and secondary schools.
- Trade and Vocational Schools: Cover tuition and fees at technical schools, trade programs, and vocational institutions that participate in federal student aid programs.
- Apprenticeships: Pay for registered apprenticeship program costs including fees, textbooks, supplies and required equipment.
- Career Changes: Use funds for your own education if you decide to pursue new skills, certifications, or career training later in life.
- Student Loan Repayment: Apply up to $10,000 toward existing student loans for the beneficiary or their siblings.
- Educational Materials: Purchase required books, supplies, computers, software, and internet access for any eligible educational program.
- Room and Board: Cover housing and meal costs for students enrolled at least half-time at eligible institutions.
- Roth IRA Rollover: Move unused funds into the beneficiary’s Roth IRA (up to $35,000 lifetime limit, with certain conditions).
This flexibility means 529 plans can adapt to changing career paths and educational needs throughout life, making them valuable even if traditional college isn’t in the picture.
What happens to my 529 plan if my child doesn’t go to college?
Are there any restrictions on the Roth IRA rollover option?
Do state tax benefits apply to all 529 uses?
Not necessarily. While federal tax rules apply universally, state tax benefits and regulations vary, especially for K-12 expenses link opens in a new window and Roth IRA rollovers. Some states may not offer tax deductions for K-12 tuition payments, so check your specific state’s rules.
529 Plan is a powerful tool to help with saving for a child’s college expenses. Find out what’s available in your state by visiting the College Savings Plans Network link opens in a new window or contacting your tax adviser today.
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