Top 10: Little-Known Facts About 529 College Savings Accounts

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529 college savings

While 529 college savings accounts seem relatively straightforward, there are a number of little-known facts about these accounts that can be used for advanced wealth planning, tax strategy, and avoiding common pitfalls when taking distributions from these accounts.

1:  Roth Transfers Will Be Allowed Starting in 2024

Starting in 2024, the IRS will allow direct transfers from 529 accounts to Roth IRAs.  This is a fantastic new benefit that opens up a whole new basket of multi-generation wealth accumulation strategies for families.   

2: Anyone Can Start A 529 Account For A Child

Do you have to be the parent of the child to open a 529 account?  No.  529 account can be opened by parents, grandparents, aunts, or friends.  Even if a parent has already established a 529 for their child there is no limit to the number of 529 accounts that can be opened for a single beneficiary.

3:  State Tax Deduction For Contributions

There are currently 38 states that offer either state tax deductions or tax credits for contributions to 529 accounts.  Here is the list.  There are no federal tax deductions for contributions to 529 accounts.   Also, you don’t have to be the parent of the child to receive the state tax benefits.

4:  A Tax Deduction For Kids Already In College

For parents that already have kids in college, if you have not already established a 529 account and you are issuing checks for college tuition, for states that offer tax deductions for contributions, you may be able to open a 529 account, contribute to the account up to the state tax deduction limit, and as soon as the check clears, request a distribution to pay the college expenses. This allows you to capture the state tax deduction for the contributions to the account in that tax year.

5:  Rollovers Count Toward State Tax Deduction

If you just moved to New York and have a 529 with another state, like Vermont, you are allowed to roll over the balance of the Vermont 529 account into a New York 529 account for the same beneficiary and those rollover amounts count toward the state tax deduction for that year.  We had a New York client that had a Vermont 529 for their daughter with a $30,000 balance, and we had them rollover $10,000 per year over a 3-year period to capture the maximum NYS 529 state tax deduction of $10,000 each year.

6:   Not All States Allow Distributions for K – 12 Tuition Expenses

In 2018, the federal government changes the tax laws allowing up to $10,000 to be distributed from a 529 account each year to pay for K – 12 tuition expenses.  However, if you live in a state that has state income taxes, states are not required to adopt changes that are made at the federal level. There are a number of states, including New York, that do not recognize K – 12 tuition expenses as qualified expenses so the earnings portion of those withdrawals would be subject to state income tax and recapture of the tax deductions that were awarded for those contributions.

7: Transfers Between Beneficiaries

529 rules can vary state by state but most 529 accounts allow account owners to transfer all or a portion of balances between 529 account with different beneficiaries. This is common for families that have multiple children and a 529 account for each child. If the oldest child does not use their full 529 balance, all or a portion of their 529 account can be transferred the 529 accounts of their younger siblings.

8:  Contributions Can Be Withdrawn Tax and Penalty Free

If you ever need to withdraw money from a 529 account that is not used for qualified college expenses, ONLY the earnings are subject to taxes and the 10% penalty.  The contributions that you made to the account can always be withdrawn tax and penalty-free.

9:  529 Accounts May Reduce College Financial Aid

The balance in a 529 account that is owned by the parent of the student counts against the FAFSA calculation.  Fortunately, assets of the parents only count 5.64% against the financial aid award, so if you have a $50,000 balance, it may only reduce the financial aid award by $2,820.  However, 529 accounts owned by a grandparent or another relative, are invisible to the FAFSA calculation.

10:  Maximum Balance Restrictions

529 plans do not have annual contribution limits but each state has “aggregate 529 plan limits”. These limits apply to the total 529 balances for any single 529 beneficiary in a particular state.  Once the combined 529 plan balances for that beneficiary reach a state’s aggregate limit, no additional contributions can be made to any 529 plan administered by that state.  Luckily, the limits for most states are very high.  For example, the New York limit is $520,000 per beneficiary.

About Michael……...

Hi, I’m Michael Ruger. I’m the managing partner of Greenbush Financial Group and the creator of the nationally recognized Money Smart Board blog . I created the blog because there are a lot of events in life that require important financial decisions. The goal is to help our readers avoid big financial missteps, discover financial solutions that they were not aware of, and to optimize their financial future.

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