5 Questions Parents Most Often Ask About Their 529 Plans
529 plans are one of the go-to college savings options for parents. They are heavily marketed, tax-advantaged, let you make high annual contributions, and don’t have income or age restrictions. Many families have some money in 529 plans (which they plan to use for college).
If you’re one of those families who have some college savings into a 529 plan, you want to make the most of it. Here are the 5 questions parents with 529 plans most often ask us (and the answers you need to know!):
How do I take money out of my 529 plan?
529 plan withdrawals aren’t as clear-cut as you might think. When you request a withdrawal, you’ll have three options for making your check:
- In the name of your beneficiary
- Payable to the school where your beneficiary is going
- Directly to you (the account owner)
You should always want to control your own money and your 529 plan funds are no different. So, option 3 is your smartest choice.
As the account owner, you can deposit the money into your bank account, then pay the bills yourself for qualified education expenses: tuition, room and board, books, etc.
This way, you know the bills are paid, you have qualified receipts, and the college sees all of the payment coming from the parent (sometimes a concern for non-reported 529 funds for students with need-based financial aid).
Be careful about taking out too much money out of your account or having too much money left over.
You’ll need to report the amount that isn’t used towards qualified higher education expenses in that tax year. You’ll also need to pay a 10% federal penalty tax on the earnings portion of the non-qualified distribution. The principal portion of your 529 withdrawal is never subject to tax or penalty.
What are qualified and non-qualified expenses for my 529 plan?
Qualified expenses are generally tuition, books, fees, supplies, room and board. These examples are only for college expenses, not K-12, which is far more limited and not nearly as flexible.
While living on campus, the college directly charges tuition and room and board, so it’s easier to keep track of them. If students live off campus, they still need to keep track of their room (rent) and board (food).
So what about using 529 money for off-campus housing rent and food? Yes, rent and food are qualified expenses, but there are limits. Universities set room and board allowances in their reported cost of attendance and qualified housing costs need to stay in their range.
If the rent is higher than what the university allows, any costs exceeding the qualified housing limit are taxed as regular income and hit with an extra 10% penalty.
Non-qualified expenses can range from travel to parking to excess daily meals. Unless an expense is specifically listed as qualified, assume it’s not!
Does the American Opportunity Tax Credit (AOTC) have limitations?
First and foremost, the AOTC can be worth up to $2,500 a year per student!
But, it does have income limitations. A parent who is a single taxpayer will need a modified adjusted gross income (MAGI) of $80,000 or less.
For parents who file jointly, your MAGI must be $160,000 or less. You also may qualify for a partial credit with a MAGI of $90,000 (single) or $180,000 (joint).
If your income qualifies you for this $2,500 tax credit, the AOTC requires you to spend $4,000. Be sure to use it! The caveat is that you MUST spend this $4,000 with money outside of a 529 Plan.
529 plans already have a tax advantage, so you can’t use that money to count towards your AOTC. You can’t claim two tax advantages for the same dollar.
Should I include computer costs as qualified expenses?
Yes! Technology is often overlooked as a qualified expense.
In 2015, the PATH Act added computer technology to the list of qualified higher education expenses. It includes any computers, computer-related equipment, software and internet services.
Be sure to keep track of these expenses. Don’t forget computer expenses (as well as all qualified expenses) must occur in the same calendar year that you withdraw the 529 funds.
Can you use 529s to pay off student loans?
If you have extra money in your 529 savings plan, you may think using the cash toward student loan debt makes sense. But student loans aren’t recognized as a qualified higher education expense for 529 plans.
If you make payments from a 529 plan directly into student loan debt, they’re automatically non-qualified. They’re also subject to income tax and an additional 10% tax penalty on the earnings portion.
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