529 Plans: The Pros & Cons of Grandparent vs Parent-Owned Accounts
With the rising cost of higher education, it is imperative for most parents to save for their children’s college educations expenses, and it is hard to beat a Qualified Tuition Program, referred to as 529 plan to accomplish these goals. The good news is that Grandparents are also able to buy these plans for their grandchildren to help them realize their education dreams. Parents and Grandparents often wonder what, if any advantages there are for the student depending on who owns these plans. In fact, the advantages and disadvantages depending on the situation are significant and we will discuss them in this article.
529 plans, a refresher on the basics:
529 plans are advantageous for the primary reason that they use after-tax dollars to fund a savings plan for college or other eligible post-secondary education. The account value is invested, and accumulates tax-deferred and if used for qualified education expenses like tuition, books, fees, supplies, and room and board (must be at least half-time student and capped at college’s room and board cost), the distributions are also not taxed. The contributions to the account are considered a gift to the beneficiary and are subject to gift tax. The good news is that the annual exclusion applies ($17,000 in 2023), and an advance payment of 5 years’ worth of this exclusion can be made, so a one time contribution of up to $85,000 can be made to a 529 plan without gift tax consequences, and married couples can double this amount
I have a 529 plan for my child, what are the ramifications for student aid?
The most important thing to remember is that you do not want the child to be the owner of the account, this will cause the largest impact on their financial aid. Each family has an Expected Family Contribution (EFC) based on their means to fund the education, and the 529 plan does count in this computation. The lower the EFC, the more financial aid the student is eligible for in the form of grants and student loans. Generally, 20% of a student’s assets and 50% of a student’s income is factored into this equation. The income component of this will be important when we discuss Grandparent-owned 529’s below. The good news is that the parent’s 529 plan distributions don’t count as student income, which would raise the EFC, thus lowering financial aid eligibility. Parent-owned 529 plans can reduce financial aid eligibility by up to 5.64% of the plan value.
I have a 529 plan for my grandchild, when should I use it to pay for their college expenses?
There is good news and (short-lived) bad news for grandparent-owned 529 plans. The good news is that they don’t count in the EFC calculation, which helps student aid eligibility, the bad news is that if they are used in the first two years of college, these distributions will count as student income due to a two-year look back clause in determining student aid. The reason this bad news is short-lived is that recent rule changes have taken these grandparent-funded 529 distributions as student-income off the table, meaning that starting in the 2024-2025 school year, grandparent distributions will not affect EFC calculation. For this reason, Grandparent-owned 529 plans going forward in the fall of 2024 have had financial aid disadvantages removed, with the exception being about 200 private colleges that add Grandparent-Owned 529 plans when computing their financial aid using the CSS Profile.
Dancing the Financial Aid 529 two-step!
Currently there are some advantages to having parent-owned 529 plans due to income reporting rules, but these will be removed after next school year. Grandparents should be emboldened to fund 529 plans for their grandkids, but also make sure there are successor owners to these plans (usually the parents) to avoid the account passing to the beneficiary (the child). A financial advisor can be very helpful in helping to navigate all the education funding options and aid available. For more information on how we can assist you please visit us at www.f5fp.com, or schedule a free consultation.
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