The ABCs on 529s

529 plans continue to be a popular savings tool for the many expenses that come with a college education. Although they’ve been around since the late 1980s in Ohio and a few other states – and have since spread to nearly every state in the nation – questions frequently arise about the plans. We’ve assembled some of the most often-asked questions, along with our answers.

 

1.What are 529 plans and how do you set one up?

These college-savings plans derive their name from Section 529 of the Internal Revenue Code, created in 1996. They offer tax-free savings with investment options that are not available through typical savings accounts. Each state has its own program and while you’re not required to establish a fund in your state of residence, it is usually recommended due to potential state income tax credits and deductions. 529 plans can be set up online (in Ohio via collegeadvantage.com) or through a financial advisor. You choose the state, how much you want to invest each month or via lump sum, and voila!

 

2. What does a 529 plan cover?

These plans have come a long way. While originally only covering tuition, room and board, 529 plans have evolved to provide more comprehensive financial assistance for education expenses, including enrollment-related fees, computers and technology, books, supplies and equipment. And 529 funds aren’t just for colleges and universities; they can be used for tuition at any private or public K-12 school (up to $10,000 per year) as well as for apprenticeship and trade programs. They also can go toward paying the principal and interest on educational loans (up to $10,000 per beneficiary and their siblings).

 

3. What are the tax advantages of 529 plans?

The tax advantages are plentiful with 529 plans. In Ohio, up to $4,000 in contributions is tax-deductible per year per beneficiary, and the earnings grow tax-free and will not be taxed when the money is taken out to pay for educational-related expenses. Many other states offer a full or partial state income tax deduction or credit similar to Ohio.

 

4. How much can you contribute?

There is no annual limit to contributions, however, contributions are subject to the annual gift tax exemption limit. In 2023, the annual gift tax exemption limit is $17,000 per person (or $34,000 for married couples). You can contribute more annually, but you must report the excess to the IRS by filing a gift tax return (Form 709). Although no tax will be owed on the excess, it will reduce your federal estate tax exemption by the amount of the excess. The federal estate tax exemption is currently $12.92 million (or $25.84 million for married couples).  As for total account contributions, every state has different aggregate limits. Ohio’s limit is $517,000.

 

5. How much can you withdraw?

There is no limit on withdrawals so long as they go toward educational expenses. Any non-educational withdrawals will incur federal income taxes and a 10% penalty.

 

6. What happens if the beneficiary of a 529 plan decides not to go to school?

If funds are withdrawn for non-educational expenses, they are subject to federal income taxes and a 10% penalty. However, the account owner could change the plan to another beneficiary in the same family without any taxes or penalties.

 

7. What happens if an account owner passes?

A successor owner can be designated, such as a spouse, and they will be in charge of the 529 plan. Without a nominated successor, you’ll probably wind up in probate court.

 

8. What happens if a beneficiary passes?

The beneficiary can be changed to another family member, or the account can be liquidated. If an account is liquidated, it will be subject to a 10% penalty, plus income taxes on any growth in the account.

 

9. What happens if there is money left over in the account after a beneficiary uses it for educational expenses?

The money can be withdrawn but will incur federal income taxes and a 10% penalty. You can, however, roll the money over into a Roth IRA without any taxes or penalty beginning in 2024, if certain requirements are met: 1) the 529 plan must have been in existence for more than 15 years; 2) the rollover to a Roth IRA must be within the annual contribution limits, which are currently $6,500 for individuals under 50 years of age and $7,500 for individuals 50 years of age or older; 3) the rollover to a Roth IRA cannot exceed a lifetime contribution of $35,000; and 4) contributions made to a 529 within five years prior to the rollover are not eligible.

 

10. What happens if a 529 account owner needs long-term care?

They can use 529 accounts to pay for long-term care but will incur federal income taxes and a 10% penalty. Because Medicaid views these accounts as assets of the account owners, they will require the owner to liquidate the accounts as part of the Medicaid spend-down process.

 

11. Can you have more than one 529?

An individual can have more than one 529 account. There is no limit on the number of accounts you can take out, or that a beneficiary can have. Please note, however, that most states will have a cap on the aggregate value in all accounts for a specific beneficiary.