What is a 529 Savings Plan Anyway?

Saving-for-college2---piggy-bank-cap_s600x600 Odds are you have heard the term “529 Savings Plan” a few times. There is no doubt that saving for your child’s college tuition is a good idea. But how to do it smartly and efficiently is the real question. Our new contributor and Queens Mama Eugenia Chavez is going to fill us in on the skinny about this savings plan.

A 529 Plan (also known as a Qualified Tuition Program) is a state sponsored tax-advantaged plan to help you save money for a designated beneficiary’s (your child, niece, cousin, yourself, anyone) college/higher education and expenses.  Expenses include tuition, books, room & board, supplies and fees.  For 2010, expenses also include computers and equipment, technology and internet access.  There are no restrictions on who can open an account for whom.  There are two options when you open an account:

1. Prepaid tuition plan-lets you prepay tuition at a college at today's tuition rates, currently available in 15 states.

2. Savings plan-allows you to save money in a tax-deferred account (earnings only) to be used to pay for education at future tuition rates.  This is the most popular and what is addressed in this article.

The contribution limit depends on the plan.  The IRS does not set a limit.  529 plans have a lifetime cap amount that can be contributed to.  The average cap is currently around $300,000.  The annual contribution limit is the federal gift-tax exclusion limit, currently $13,000 ($26,000 for married couples filing jointly).  Anyone can open a 529 plan.  It doesn’t matter what your income is. 

You, the account holder, own the account fully.  The child/person who you opened the account for has no rights to the money.  Most plans allow you to reclaim the money anytime you want.  When it comes to investment decisions, know that you won't deal directly with the state, but instead with the investment company.  Any money withdrawn, not applied to higher education expenses, will be subjected to federal and state taxes plus a 10% penalty on earnings. Let’s explore that thought for a minute. A 529 plan can be used for anyone’s higher education. Say, down the line you (the person who opened the account) want to go abroad and take a class in another language. You are able to use these funds to do so. The 529 savings funds can be used for your flight, hotel, class, food, and related educational expenses.

You can see more on the 529 plan in her next article “Benefits to having a 529 Plan”