529 Plans: A Powerful Tool to Save for Education
Morgan Stanley Wealth Management02/06/24
Summary: Though education costs continue to climb, starting to save and invest early in a tax-advantaged account can make a difference.
- Rising education costs have made paying for it a greater challenge but investing in a 529 Plan can help.
- Investments in 529 Plans grow tax-deferred, and some states also offer deductions or credits for such contributions.
- You can annually contribute certain unused 529 Plan funds into a Roth IRA without triggering a tax bill.
Of all the things that keep parents awake at night, looming college costs may be among the most daunting. For the 2023-2024 school year, the costs for a four-year private college averaged $55,470 per year for tuition, fees, room and board, books and supplies, transportation, and other expenses.1 That amounts to more than $200,000 to cover a four-year degree. And that’s for just one child.
With costs so high, many students and parents are taking on significant student loan debt to pay for college. More than half of those who graduated college in 2022 did so with loans, with an average debt burden of $29,400.1
If you’re on track with your retirement savings, starting the process of saving for the education costs of a child or grandchild early can help limit how much your future student will have to borrow. Consider putting those funds into a 529 education plan, a tax-advantaged way to invest now toward future education expenses.
What is a 529 Plan and Why Consider One?
Named after Section 529 of the Internal Revenue Code, a 529 Plan is a tax-advantaged vehicle you can use to invest for future education expenses. A 529 Plan creates an incentive for families to invest toward education costs because earnings in the plan are tax-deferred, with withdrawals being exempt from federal and, in most cases, state income taxes if you use the funds for qualified expenses, such as tuition, fees, room and board, and supplies.
Many states provide additional benefits, such as state tax deductions or tax credits. 529 Plans can also offer flexibility. Some investments used for education funding require you to give the assets to the beneficiary when they reach a certain age.
If you open a 529 Plan, as the owner of the account, you continue to make all of the decisions and retain control over the assets. For example, if your son or daughter earns a scholarship and won’t fully drawdown the money in the account, you can choose a different beneficiary within the same family, or even use the funds for your own education needs.
In addition to college costs, up to $10,000 per beneficiary per year can be withdrawn federally tax-free to pay for eligible K-12 tuition2. State tax treatment varies.
Still, many are unaware of 529 Plans and their expanding benefits. Fewer than a third of parents are currently using a 529 Plan to save for their children’s education3. Many want to save and invest for college, but don’t know where to start. Others, like grandparents, want to help with their grandchildren’s future education expenses.
529 Contribution Limits Are Considered Gifts for Tax Purposes
In 2024, annual contributions to a 529 account up to $18,000, or $36,000 for couples filing jointly, are treated as gifts and qualify for the annual per-beneficiary gift tax exclusion.4
Additionally, 529 Plans employ a special rule: an upfront contribution in one year of up to $90,000 for single filers, or $180,000 for married couples filing jointly, may be made without any gift tax consequences.5
Investing Early for Future Education Costs
The earlier you can start putting money away, the better to allow for more tax-free compounding. However, it’s never too late to start saving and investing for college.
Money set aside as late as when a child is 16 will still have several years to grow, assuming you use those funds to pay for the latter years of undergraduate expenses, or even graduate school. Funding can continue while a student is in school.
The source of this Morgan Stanley article, 529 Plans: A Powerful Tool to Save for Education, was published on February 2, 2024.
- College Board, Trends in College Pricing and Student Aid 2023. Accessed November 27, 2023.
- College Savings Foundation, U.S. Parents Seek Career-Oriented, Affordable Higher Education for Themselves and Their Children, College Savings Foundation Survey Finds. Accessed November 28, 2023.
- Sallie Mae and Ipsos, How America Pays for College, survey of 2,000 college undergraduates and their parents, August 2022.
- The filing of IRS form 709 is required to validate the five-year election.
- IRS, IRS provides tax inflation adjustments for tax year 2024: https://www.irs.gov/newsroom/irs-provides-tax-inflation-adjustments-for-tax-year-2024
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