Saving For College
Many people recommend you save for college using 529 Plans. Here's some information on these programs and my own experience with them.
Among the biggest advantages of 529 plans over other college savings options are the tax advantages they offer. Earnings grow tax-deferred and withdrawals are tax-free when used for qualified education expenses.
Although the IRS typically allows you to give no more than $15,000 a year (for tax year 2019) to another person without a federal gift tax, you can contribute up to $75,000 to a 529 plan in one year. A special tax law allows you to aggregate five years of the allowable $15,000 annual gift-tax exclusion to jump-start a 529 plan. While you will be precluded from making any further gifts for five years, compounding will make your earnings grow faster than if you invested $15,000 in each of the five years. Also, anyone can contribute to a 529 plan. Unlike education savings accounts (ESAs) and saving bonds, there are no income limitations. For most wealthy families, 529 plans are one of the few available tax-advantaged college savings options.The assets of one 529 plan can be transferred tax-free to another 529 plan of another beneficiary, as long as the new beneficiary is a "family member" of the beneficiary of the 529 plan from which the transfer was made. "Family members" include, among others, the beneficiary's spouse, son, daughter, grandchild, niece, nephew and first cousin.If your child decides not to go to college or you over-fund a 529 plan, you may pay a penalty in addition to any taxes you owe on earnings. If you withdraw money from a 529 plan that is not used for qualified education expenses, you are generally required to pay income tax and an additional 10-percent penalty on earnings.There are a number of exceptions to this penalty. The penalty may be waived if your child gets a scholarship or is disabled. You also can avoid the taxes and penalties by transferring the 529 plan to another beneficiary who will use the funds for qualified education expenses. My own experience with 529 plans is that the investment options in these state-sponsored plans are not very good. We setup one plan initially for my son and it lost money, then we moved the funds to another plan and it didn't do much better. Also, since you can only use the money for educational expenses, this limits the flexibility if for some reason you don't need the money for education.
For these reasons, I decided a few years ago to close the 529 and move the money into a Uniform Transfers to Minors Act (UTMA) account for my son. I also set up similar accounts for my other children. You have more flexibility over investment choices, which is great and you also have flexibility in the use of the money for just about anything as long as your child who owns the account is the beneficiary of the funds. A portion of the child's income earned by the investments is tax free and a portion is taxable at the child's rate or parent's rate, depending on age. If not needed for college, your child will have the money to help them get started living on their own after they graduate (they get access to the money at age 18 or 21, depending on the state). We invested in some growth stocks for early years and then as each child gets closer to college age, we move the money into safe money market investments, while continuing monthly contributions. So far, this has worked out well.
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