529 Education Savings Plan – To assist with college tuition for younger children or grandchildren, you may want to defer the receipt of funds, until the child or grandchild needs to pay for tuition down the road. You can make a gift into a custody account or into a trust that qualifies as a current gift under the Uniform Gifts to Minor’s Act, or you can fund a Qualified Tuition Plan under IRC Section 529.
Forbes’ recent article entitled “Estate Planning Primer: Qualified Tuition Plans” explains that there are two kinds of 529 education savings plan programs: prepaid plans and savings plans. The advantage of a 529 plan over a Unified Gift to Minors Act plan is that the earnings on the assets in the 529 plan aren’t taxed, until the funds are distributed. The distributions are also tax-free up to the amount of the student’s “qualified higher education expenses.”
Prepaid Programs: Some colleges let you buy tuition credits or certificates at the current tuition rates, even though your grandchild won’t be starting college for several years. This allows you to lock in today’s rates for her enrollment some years later. This move can resultant in substantial savings, since tuition continues to rise at most institutions.
Savings Programs: Similar to a Traditional IRA or a Roth IRA, tuition amounts covered by a 529 education savings plan are dependent on the investment performance of the money you have in the plan. If it grows, more cost can be covered. But if it declines, less will be covered. Therefore, it is good to be conservative, if the need for distributions is nearing soon.
Qualified Higher Education Expenses: Tuition (including up to $10,000 in tuition for an elementary or secondary public, private, or religious school), fees, books, supplies, and required equipment, as well as reasonable room and board are qualified expenses, if the student is enrolled at least half-time. Distributions in excess of qualified expenses are taxed to the student, if they represent earnings on the account. A 10% penalty tax is also imposed.
Beneficiary: The beneficiary of the program is specified when you start the funding. However, you are able to change the beneficiary or roll over the funds in the program to another plan for the same or a different beneficiary without income tax liability.
Eligible Schools: Any college, university, vocational school, or other post-secondary school eligible to participate in a student aid program of the Department of Education will be eligible schools for these programs.
The contributions made to the qualified tuition program are treated as gifts to the student. They qualify for the annual gift tax exclusion ($15,000 per person per year for 2020) adjusted annually for inflation. If your contributions in a year exceed the exclusion amount, you can elect to take the contributions into account over a five-year period starting with the year of the contributions.
Note that you may not be able to make the distributions from the program when a very young (or unborn) beneficiary goes to college, so name an alternative custodian, perhaps a parent of a grandchild, to make distributions for you.
Reference: Forbes (Aug. 5, 2020) “Estate Planning Primer: Qualified Tuition Plans”