A college education is one of the best investments you can make for your child’s future. In a previous post, I talked about the advantages of saving early. If you’ve waited to save, fortunately, there are other options for your college savings plan.
State-sponsored college savings plans, also called Section 529 plans, allow you to make sizable investments while getting some tax breaks at the same time.
There are two types of Section 529 plans. The first type allows you to set up education savings accounts. The plan allows individuals to invest in a predetermined pool of stock and bond investments. Most plans will require you to divide your investment according to a given asset allocation determined by your child’s age. In general, the asset allocation will be more aggressive for younger children and less aggressive for children nearing college age.
Lifetime contribution limits to Section 529 plans vary from state to state, and you may have some flexibility on when you can contribute. (Check here for a resource on finding your state’s limit.) In addition, there are no income thresholds for 529 plans and typically no annual contribution limits, although annual contributions of more than $13,000 may require filing a federal gift tax return and are subject to federal gift taxes. Contributions up $13,000 annually ($26,000 when made jointly with a spouse) or a lump-sum contribution of $65,000 every five years will not incur gift taxes. If you live in the state where the plan is administered, you may be eligible for state tax deductions and any earnings in the account potentially grow tax deferred.
Once you child is college-aged, he or she can withdraw money from the account to pay for qualified higher education expenses. As long as the funds are not used for any other purpose, they are withdrawn tax-free. And if there is money left over in the account, it can be transferred to a sibling, first cousin, or other family members of the original beneficiary as long as they are in the same generation.
While Section 529 plans are flexible and can be used at almost any college, they do present an element of investment risk. These types of plans are not guaranteed, and your investment could lose value.
In a later post, I’ll provide an example of a prepaid college tuition plan available to Washington students. If you’re interested in learning more about Section 529 plans, please feel free to contact us.
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