What Is A 529 And The Tax Benefits Of Opening One?

A 529 savings plan, or 529 for short, is a financial vehicle operated by a state or educational institution to assist people in saving for college. Usually a 529 is set up by a donor or donors to support a particular recipient (often a child, grandchild or niece/nephew) in funding their education, not unlike a college-focused trust fund. In addition to providing educational funding for its beneficiary, a 529 has several tax benefits for the person or people who set it up.What is the best way to start a College Fund for your kids from a tax perspective.

The main benefit is that the earnings of a 529 are tax-free at the federal level as long as they are used for educational purposes. Neither the growth of the 529 over time nor the education-related disbursements from it are taxable by the US government, and the money you put into it is only subject to a gift tax if it goes over the annual exclusion limit of $14,000. Be careful, though: if you withdraw or disburse 529 funds for non-educational needs, those payments are taxable and may also incur a penalty. But even with that limit, a 529 offers a huge tax advantage over most other financial vehicles (such as mutual funds), where money is taxed as it grows and/or when it is withdrawn.

Many states are also on board with 529 plans. As of this writing, 33 states offer tax deductions or credits for 529 contributions (which, incidentally, the federal government does not; 529 contributions are not tax deductible at that level). You can often claim tax benefits each time you contribute to a 529 as well—it’s not typically a one-time thing. And if your state doesn’t offer 529 benefits, that’s okay too. You are free to create one in any state you’d like, not just your own.

Also, 529s don’t make your tax returns any more complicated. Aside from the potential gift tax, if you contribute more than $14,000 in a year, 529 contributions don’t show up on your tax returns at all. You don’t need to report your contributions, and you won’t get a 1099 form on earnings until you start making withdrawals or disbursements. So not only do they save money, they save hassle as well.

Finally, 529 plans can help solve the problem of debt. College is beyond expensive these days, and the student loan debt in the US is over $1 trillion collectively. Helping a child or grandchild pay for college by setting up a 529 for them will allow them to get their education with that much less debt to pay for it. Debt relief at that level is a priceless gift both for them and for you.

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