For families trying to save for their children’s college education, 529 college savings plans, named for a section of the tax code, has been the best option.
The benefits include:
- Families invest through these accounts without earnings being taxed as long as the funds are used to pay for college expenses.
- Earnings have been typically free from federal and state taxes.
- Grandparents, aunts, uncles and anyone else who cares can contribute to the account.
- Those that operate like a 401(k) retirement plan invest in stocks, bonds or money market funds.
How does the new tax law affect 529 college savings plans? In fact, the new tax law may make them more attractive from a tax perspective.
You cannot deduct 529 contributions on your federal tax return. With state income taxes no longer deductible over $10,000 on federal tax returns, you want to take advantage of other deductions. Many states allow residents a limited deduction or credit against state income taxes for contributions to state-run 529 plans.
Even if you do not qualify for a state income tax deduction, a 529 plan is a great way to save for college:
- All growth of investments inside the plan is withdrawn tax-free for approved college expenses, which applies to any accredited school in any state, no matter which state plan used to invest.
- The money can be transferred between members of the same family. If a sibling gets a full-ride scholarship, it is possible that another family member can use the 529 account.
- Assets in a 529 plan count far less against the family in the financial aid formulas than student assets.
- Plans held by grandparents do not count at all. However, you need to be shrewd about withdrawals.
Typically, a 529 plan offers a limited number of mutual funds and the eventual results depend on market performance and investment choices. Most plans offer age-based funds that promise to become more conservative as your child gets closer to needing the money for college.
The best ways to start investigating 529 plans is at www.SavingforCollege.com, where you can compare various plans for performance and fees. You can link directly from the site to application forms for various plans. It is worth comparing your state’s plan to those offered by other states since fees can be challenging over the long run of the investment.