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529 College Savings Plans | What Are the Tax Benefits

529 College Savings Plans | What Are the Tax Benefits

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A 529 college savings plan is an excellent way to invest in a child’s future. College costs are soaring, making it hard for people to pay for school for their children. The days of saving up for your future child’s education are becoming more difficult because the cost of going to school keeps getting greater.

For this reason, many adults now find that they are in student loan debt, which typically lasts nearly a lifetime. This is a common occurrence for even those who didn’t graduate with a degree! This is an unfortunate part of being an adult today.

When it comes to looking at your child’s future education cost obligations, it’s probably important to you to make sure they don’t go into the debt that is so common today. That’s what’s great about college savings plans. They enable you to save for your child’s college expenses in a pretty safe way.

There are some disadvantages to specific college savings plans, but overall, they are nice investment tools where you can put money toward a child’s future education. It’s a smart idea to weigh all investment options or seek the advice of a professional before putting all your eggs in one basket.

What are 529 Tax College Savings Plans?

A 529 tax savings plan, named after Section 529 of the federal tax code, is an education savings account exempt from federal taxes. With these plans, you are exempt from federal and state tax, provided your funds stay in the plan.

U. S. News reports that these plans were first introduced in 1996, and they were created to help taxpayers save on qualified college expenses for designated beneficiaries. They are similar to mutual funds but much simpler for those who incur state or federal income taxes each year.

Simply put: This kind of savings plan is a tax-advantaged way of saving for education expenses that the beneficiary will incur in the future. A 529 plan is also known as a “qualified tuition plan,” and there’s more than one plan available for benefactors to choose from.

According to Investopedia, these savings plans are sponsored by states, state agencies, or schools. The funds may be used to cover tuition, room and board, books, computers, and other education-related expenses, as specified by the Internal Revenue Service.

What are the Different Types of 529 Savings Plans?

There are two kinds of plans available for investors. The prepaid plans made to save for tuition are just one of the types of 529 plans. The other type of savings plan is referred to as a tax college savings plan.

With the prepaid 529 college savings plan, you lock in the current cost of tuition. By doing this, you can save money if, in the future, college tuition prices skyrocket. Usually, the cost of going to school rises each year, so this is a great savings plan.

Generally, prepaid plans do not place limitations on how much you can invest in them. This means that you can continue to invest, contributing on an unlimited basis, over time. One great way parents can use this plan is to pay for tuition, offsetting a huge amount of their child’s college costs.

This is usually only beneficial as an investment instrument if your child goes to a school in the state you decide to invest in. If your child moves or decides to go to a school that is located out of state. As an investor, if your beneficiary decides to go to a school out of state, you can get your principal investment back, but the growth and interest are usually lost.

You can avoid losing this money (the interest and growth) if you transfer the fund to another child who plans to attend school in the state you have invested in. This way, you will receive the full benefit of the growth of the investment plan.

This savings plan is unfortunate in that it limits the choices of schools your child can go to. The geographic limitation is an unfortunate feature of this savings plan. Another disadvantage is that many states heavily promote prepaid plans, making investors, such as parents, think it is their only option. Instead, parents or other investors need to explore all available options.

One final disadvantage of prepaid plans is that room and board are often not covered as part of a prepaid plan. It’s also quite difficult if not impossible for family members other than parents to participate in these kinds of savings plans.

It is actually nearly impossible for other people to send money to another child’s account, such as a family member. Also, some prepaid plans are backed by the states, but most are not guaranteed, making them high-risk investment opportunities.

Because of the numerous pros and cons that come with a prepaid savings plan, it’s a good idea to weigh all choices before deciding to invest.

Also, because of all of these disadvantages of the prepaid plans, it may be wise to invest in a tax college investment plan. These plans have become more popular over the years and have steadily grown to be very popular for those who invest in education costs.

How Does a 529 Savings Plan Work?

Any citizen or resident alien of the United States 18 years old or older may open a 529 account. Typically, the designated beneficiary is a child or grandchild but an adult of any age may open an account to save for his or her own education costs or for those of someone else.

Investing in a family member’s future education is typically just easier than doing so for someone else’s child. The complications occur when the child reaches the age of a college student. You can move past that; it’s just easier if it’s a relative.

Usually, there are limitations to what the plan will cover in terms of education costs, so make sure you understand where your funds are going when you make an investment.

Typically, when a student is ready to withdraw funds from the account, he or she can only do so for qualified education expenses. This usually includes tuition and fees related to the requirements of the school he or she is attending.

What are the Benefits of a 529 Savings Plan?

One great feature of these savings plans is the tax implications. You typically do not have to pay taxes on these funds until they are withdrawn. Since these accounts are tax-free, you also do not usually have to report anything about them on your annual tax return. This is a great relief for many, as you don’t have to worry about additional forms or limitations.

Depending on how long you invest in a 529 savings plan, you could save quite a bit of money on taxes alone. That’s not even taking into consideration the interest and growth you will receive in the account. Any growth you receive is also not taxable income, so that’s a potential benefit, as well.

Another fantastic feature for parents, grandparents, or other family members is the fact that they get to be in complete control of the funds in the account. Generally, the beneficiary does not have access to the account. This means that you will know that the funds are being used for what you intended for them to be – to pay for college tuition.

Also, these savings plans usually are very simple to set up and easy to maintain. You don’t have to worry about the amounts going up or down depending on the market. Instead, you can just focus on putting the amount in there so that the child has a fighting chance at going to school and receiving a debt-free education.

Finally, college savings plans are neat investment opportunities because they allow anyone to contribute and are very flexible to adjustments. Most allow you to change things around at least twice a year, permitting you to completely change everything once per year.

This gives you plenty of time to shop around if you find a better investment opportunity that you want to look into.

Conclusion

When looking for an investment tool to park your funds, if you are hoping to invest in a child’s education, you may want to consider looking into a 529 savings plan. They can possibly save you a lot of money, especially if you invest in a prepaid plan and the beneficiary decides to go to a school that is located in the state you invest in.

If you think this might be the right investment plan for you, look into what your state offers in terms of these plans. This is a great way to give the gift of an education to a child who may not otherwise be able to afford school.

Make sure you weigh all options before deciding on one particular savings plan because you want to get the most bang for your buck. If you need help making the right investment decision, just know that Borshoff Consulting does help with business advice, so please contact us today.

We can also help with your individual or small business tax needs. Are you looking for ways to save on your taxes this year? Do you have education and tax needs? You can trust Indiana’s tax expert, so sign up for a free tax consultation.

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