Updated: February 2020
Has uncertainty about the rules of 529 college savings plans discouraged you from starting one? These plans can seem complex, since they involve both federal and state tax implications. However, many parents' confusion about the plans stems from simple misunderstandings. Read on to learn the truth behind some common questions about 529 college savings plans.
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Truth: A 529 savings plan can generally be used on education costs at any U.S. college or university, and at some institutions outside of the country, according to the Securities and Exchange Commission (SEC). Qualified expenses generally include tuition, fees, room and board.
It's important to note that there are two types of 529 plans: college savings plans (described here) and prepaid in-state tuition plans. Prepaid plans allow you to pay for future in-state tuition at today's prices, but may require use of the funds in your home state, according to the SEC.
Truth: You're free to invest in any state's 529 plan, says the SEC; most of them don't require you to be a state resident.
You might want to compare several different states' plans before choosing one, since they may offer different features, says the College Savings Plans Network. One advantage to investing in your home state's plan is that you may be eligible for state tax deductions on your contributions.
Truth: Your child can attend a public or private post-secondary school, and you can tap 529 account funds to pay for it, the SEC says. Eligible schools are those that participate in U.S. Department of Education student aid programs, according to the Internal Revenue Service.
Many prepaid tuition plans (again, not to be confused with college savings plans) focus on in-state, public colleges and universities, FinAid.org notes
Truth: It probably won't matter as much as you think, says FinAid.org. Why? When you own a 529 plan (with your child as the beneficiary), it's considered a "parent asset." According to FinAid.org, parental assets count less in financial aid formulas than money owned by your child. Parental assets also matter less than your annual parental income.
Truth: You won't lose your contributions to the plan, according to the College Savings Plans Network. You have several options for recouping most or all of your invested money if your kid doesn't go to college.
You can make another family member the beneficiary of your 529 and use the money for that family member's college education, according to FinAid.org. You could also take college classes yourself and use the money for qualified educational expenses.
If neither of those options works for you, you can withdraw your own 529 contributions without penalty, according to Investor.gov. You'll simply owe state and federal taxes on the plan's earnings, along with a 10 percent penalty on the plan's earnings.
With more knowledge of 529 college savings plan rules, you can be better prepared to decide if one is right for you.
