MONEY THOUGHT:

WTF is a 529?!

It’s the first day of the school year for public schools here in Wisconsin and my feed is blowing up with posts from parents who can’t believe how old their babies are already. I know you parents don’t want to think about it, but just wait until you send ’em off to college! I’ll give you a moment to cry. Since I brought up college, let’s talk about how your kiddos are going to pay for it. You can give them a head start by opening a 529 account for them now. Wait, Sarah, WTF is a 529?? I’m so glad you asked.

A 529 account is a type of investment account designed specifically for education saving. You can think of it like a retirement account, but for college. No mater what your income level is, you can put money into a 529 account for a student. That money can then be invested and all growth on those investments can be withdrawn tax-free and used for qualifying education expenses.

Everybody loves tax savings

Many states also offer incentives to put money into these accounts. Wisconsin, for example, allows each adult Wisconsin taxpayer the ability to deduct up to $5,000 (2024 numbers) in contributions made to each beneficiary of a Wisconsin 529 account. Meaning a married couple — two tax payers — can give $10,000 to each for their two children — two beneficiaries — and deduct a total of up to $20,000 from their income taxes. Each state is different, so check your local listings.

And it’s not just parents who can take advantage of this! Anyone making a contribution may be able to deduct their funds. This can be a nice benefit for grandma and grandpa, or even other family members and friends. Especially when a child is very young and doesn’t need more stuff for Christmas or a birthday. Some states have a cap on how much anyone can put into an account, and there are other rules to be aware of if you are feeling especially generous. (This is where your friendly neighborhood financial advisor can help out.)

Each state also runs their own 529 platform. You do not need to be a resident of that state to use their 529 program. Since each platform is like a 401(k) where you have a limited menu of investment options to choose from, it can often be a smart idea to shop around. Here again, though, you want to make sure you’re maximizing your state’s benefits. The tax deduction I mentioned above for Wisconsin can only be used if you are contributing to a Wisconsin plan (luckily, Wisconsin’s plan is pretty solid, so this isn’t a huge deal).

How does this work?

529 accounts are promised to the student — called the “beneficiary” — who’s going to benefit from it, but with an adult — called the “custodian” — as legal overseer and owner. Only one kid can be on an account, but funds can be transferred between accounts for siblings or another specified family member without a penalty. If one student doesn’t use all the money in their account? The leftovers can be sent to their younger siblings.

When a student needs to withdraw funds, a request will be submitted to whatever company administers their plan. The plan can give the money directly to the student, directly to the school, or to a requested third party. It is important to keep record of how withdrawals were used just in case the IRS asks.

Student aid may be affected by a 529 account. But don’t let that stop you from using one! If a parent is the custodian, the account needs to be included on the student’s FAFSA. Even though the student’s name is on the account, it will be counted as the parent’s investment. This means it will carry much less weight than if the student owned it completely.

Even better is if a non-parent is the custodian. Let’s say Grandma wants to open a 529 account for her sweet grandchild. There isn’t a line on the FAFSA for Grandma’s info, which means you don’t have to report the account. Until 2023, you had to report any money grandkids received from these accounts. Not anymore! Again, a good financial advisor can help navigate this.

WTF is a 529 Qualifying Expense?

Because there are some restrictions to how 529 funds can be used tax-free. These are called “qualified expenses”. Most people think the money can only be applied to college, but recent laws have opened options up. 529 money can be used for college tuition (obviously) and fees. Tuition for tech school, trade school, and vocational also qualify. Then we have books and materials, room and board (for students enrolled at least half-time), computers and related equipment, internet access and special needs equipment for students attending a college, university or other eligible post-secondary educational institutions. I think that computer one is a super nice add-on.

Further, 529 funds can be used to pay for K-12 tuition before college. This is limited to $10,000 per year. 529 money can also be used to repay up to $10,000 worth of student loans.

If money still remains in an account after all of that, 1) you have some very generous family members and I want to meet them and 2) the money can be used for anything, but there will be penalties. Money that isn’t spent on qualified expenses will be subject to ordinary income taxes at whatever rate the student is at, plus a 10% penalty.

As of 2023, we also have the option of rolling up to $35,000 from a 529 account to a Roth account in the beneficiary’s name. I know every parent secretly hopes their baby will be a super genius or a magnificent sports ball player and get a full ride scholarship. Even if that dream comes true, your 529 savings will not go to waste. Instead of using the money to pay for college, you can give your kid a head-start on retirement saving!

Yikes. That’s a lot

If your head is spinning, then you’re getting the gist of why personal finance sucks. This is why my whole job is to answer questions like “WTF is a 529??” Really, what I hope you get out of this article is that a 529 account can be a very powerful tool in helping a student pay for higher education. Since a recent Edward Jones study reported that 30% of respondents feel paying for their kids’ college is a top priority, it helps to know what’s available.

The next time you’re with other parents you can casually drop this knowledge and sound super smart. Now you know WTF is a 529.

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Wisconsin CERTIFIED FINANCIAL PLANNER™ professional and educator Sarah Paulson

THE AUTHOR

Meet Sarah Paulson, your
CERTIFIED FINANCIAL PLANNER

Although I’m a born-and-raised Wisconsinite – living in Appleton, Wisconsin –

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True story: once when going through international customs in Amsterdam, the officers asked why they couldn’t find a Dutch residency permit in my American passport.

I bring a big world picture to my money management advice so you can view the wider world, too.

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