Did You Know May 29th is an Important Tax Day?

May 29, or better presented as 5/29 for our tax purposes, reminds us of a potential tax strategy: the 529 plan. The name comes from the Internal Revenue Code section (26 U.S. Code § 529) under which Qualified Tuition Programs exist. Originally designed for tax-advantaged higher education savings, 529 plans have grown to so much more than just college savings accounts for when your kids get older.

My kids are young, what’s the benefit to a 529 plan?

529 plans are akin to a Roth retirement plan in that contributing to a 529 plan is done using after-tax dollars. Earning within the account accumulates tax-free and assuming the funds are used for qualified education expenses, these distributions would be excluded from income tax. Qualified education expenses are very broadly defined and are not limited to college expenses only. Up to $10,000 per year may be used for K-12 tuition and fees; tuition and required fees at a College or Vocational school where there are no annual limits. Books and supplies, computers, software and internet access, room and board, are all likely qualified education expenses for the college student (enrolled at least half-time in some cases). More recently, up to $10,000 of 529 distributions may be used to pay off student loans as a qualified education expense!

While there are no immediate Federal tax benefits for contributions (because you are using after-tax dollars), there may be significant (and immediate) State tax benefits. Most states offer a deduction for contributions made to a 529 plan; Indiana, Utah, and Vermont offer a credit based on the amount contributed. For example, Indiana 529 contributions generate an annual 20% state tax credit capped at $1,000 per taxpayer! Note, there may be restrictions on whether the plan deduction or credit may only be generated from a State-sponsored plan, so be sure to check your State’s specific requirements. States which do not impose an income tax (AK, FL, NV, SD, TX, WA, WY) won’t have this benefit, and there are a few which have a State income tax but offer no credit or deduction (CA, HI, KY, and NC).

My kids are grown and in college now…did I miss out?

Not necessarily! Most States generate a benefit immediately upon contribution. As a result, you could make a contribution, generate the State benefit, and immediately withdraw the funds to pay for qualified education expenses. Some States limit the annual benefit generated while others do restrict the generation of immediate benefit through time requirements or netting of contributions with distributions within a tax year. Also, not every State defines “qualified education expenses” the same as Federal, particularly for K-12 tuition and student loan payments. Be sure to confirm your State’s specifics.

I don’t have kids, I have grandkids…any benefit for me?

Potentially, yes! Generally, you don’t have to be the 529 account holder to make contributions and generate an applicable state benefit. Note, however, the State benefit generated is based on where the 529 plan and beneficiary are located. So, for example, if you retired to Florida from Indiana and the grandkids are still back in Indiana with an Indiana 529, unless you have Indiana sourced income subject to State tax, the Indiana tax credit won’t help you.

Can I use this benefit for myself?

The SECURE Act 2.0, signed into law on December 29, 2022, provides a whole new utility for 529 plans: rollovers. Beginning in 2024, 529 plans may rollover up to $6,500 annually to a Roth IRA with a total lifetime limit of $35,000. There are a few caveats: the 529 plan must have been established for at least 15 years before the conversion AND any contributions made within the last five years are ineligible for rollover. Be sure to review your State’s requirements on any deduction/credit recapture. There is certainly more to come on this very new tax benefit and the J.K. Lasser’s^TM Editorial Team will update you as the situation develops.