THE BASICS OF COLLEGE SAVINGS PLANNING

A 529 Plan is an education savings plan operated by a state designed to help families set aside funds for future college costs. It is named after Section 529 of the Internal Revenue Code which created these types of savings plans. 529 accounts can be used for college and trade schools and up to $10,000 of K-12 education costs including tuition, room and board at school and a computer if required for your student’s classes. 529 accounts can also help pay down $10,000 of student loans per student.

Source: https://www.savingforcollege.com/article/what-you-can-pay-for-with-a-529-plan

529 Plans are established by states. Except for Wyoming, all states offer at least one 529 Plan. In addition, anyone can open a 529 Plan account: a parent, grandparent or friend. And you can invest in a 529 of another state. The beneficiary can be anyone, even you. The only requirement is that the account owner be a U.S. citizen.

There are two types of 529 plans:

Savings Plans work much like a 401k or IRA by investing your contributions in mutual funds or similar investments. Your account will go up or down in value based on performance.

Prepaid Plans let you prepay all or part of the costs of an in-state public college education. This lets you lock in the tuition rate by purchasing units or credits. These plans are offered in only nine states as of 2023, and the credits can only be used for tuition. Read the plan details carefully, as some allow transfer to other schools, but your options can be limited.

The person who opens the 529 account or purchases the prepaid plan, owns the account, not the beneficiary, and always retains control. They decide how to invest the money contributed, how withdrawals are used and can change the beneficiary.

Contributions to a 529 Plan

529 Plans have no income limits, age limits or annual contribution limits. Initial minimum contributions often start as low as $25, and then monthly contributions can be as low as $15 in some states. Most plans allow you to “set it and forget it” with automatic investments that link to your bank account or payroll deduction plans. There are lifetime contribution limits, which vary by plan, ranging from $235,000 - $550,000 (as of June 2023).

• The beneficiary of the Coverdell ESA must be under the age of 18 at the time the account is established.
• The contribution limit is $2,000 per beneficiary. When accounts are established by different family members for the same child total contributions cannot exceed $2,000 in a year for that beneficiary.
• There is an income limit of $110,000 for individuals and $220,000 for taxpayers filing married filing jointly above which you cannot contribute to ESA accounts.
• The low contribution limit means even a small annual maintenance fee charged by the financial institution could significantly affect your ESA investment return.
• Your contribution goes into an account that will be distributed to your child at 30 years old if not used for college, unless the beneficiary has special needs. The earnings in the account will be income taxable and subject to a 10% penalty. You can change the beneficiary on the account or transfer the balance to another Coverdell or 529 plan, subject to certain rules.

Sources: www.savingforcollege.com,https://www.irs.gov/pub/irs-news/at-03-38.pdf

Coverdell Account Income Tax Benefits

Earnings in ESA accounts are tax-deferred, just like 529 plans. Similarly, if withdrawals are used for qualified education expenses, as defined by the Internal Revenue Service, they are exempt from federal income taxes. If a withdrawal is used for non-qualified expenses, then the earnings portion of the withdrawal is subject to federal, and perhaps state, income tax. Also, in most cases, the earnings portion of withdrawals taken for non-qualified expenses is subject to a federal tax penalty of 10%, though there are some exceptions.

Sources: Bankrate.com Guide to Coverdell Education Savings Accounts

Some or all the interest earned on U.S. Savings Bonds may be excluded from income if used for higher education. The bonds must be Series EE bonds issued after 1989, or Series I bonds. Bonds must be issued in the name of the taxpayer 24 years or older. Qualified expenses include tuition and fees, and contributions to Coverdell and 529 accounts, but do not include textbooks or room and board. It’s important to remember to pay the education expenses the same year you cash the savings bond, and you must claim the credit on that year’s tax return.

Sources: TreasuryDirect.gov Using Bonds for Higher Education
IRS.gov Exclusion of Interest from US Savings Bonds Form 8815

UTMA AND UGMA ACCOUNTS

Accounts set up under the Uniform Gifts to Minors Act (“UGMA”) and the Uniform Transfers to Minors Act (“UTMA”) have been used for many years to pay for college education. One advantage is that a portion of the earnings in these accounts may be either tax-free or taxed at the child’s tax rate. ($1,050 is tax-free, and the next $1,050 is taxed at the child’s rate). Earnings above this initial $2,100 is taxed at the parent’s tax rate until the child reaches the age of majority. The disadvantage is that earnings are taxed at all (unlike 529 accounts). Another disadvantage is once the child is no longer a minor, they control the account and how the money is spent. Depending on the state, one is no longer a minor between the ages of 18 and 25.

UGMAs and UTMAs can be rolled over into Section 529 Plans, but account control remains with the beneficiary once they are no longer a minor. Some financial planners suggest spending down the account for the benefit of the minor first. When the UGMA or UTMA balance is zero, then use the 529 plan for their remaining education expenses.

Please note these savings vehicles can be complicated, from both an estate planning and education funding standpoint. Please consult your financial planner, tax consultant and estate attorney for more details.

Source: www.savingforcollege.com

RECENT CHANGES TO FAFSA APPLICATION PROCESS: WHAT TO KNOW

Typically, the FAFSA application process opens on October 1 for students and families starting college the following year. But in 2023, the FAFSA application will open sometime in December (to apply for the 2024-25 school year). The reason has to do with “FAFSA simplification” and how financial need is calculated. The Department of Education needed extra time to get the application launched. Here are a few of the key changes:

Streamlined application process. The FAFSA has been greatly simplified and reduced from 108 questions down to just 36, making it much easier and faster for families to apply for funding.

Discount eliminated for multiple children in college. Previously, financial aid eligibility increased for families with more than one child enrolled in college at the same time. Under the new legislation, the FAFSA no longer provides this discount.

Expected Family Contribution (EFC) replaced by Student Aid Index (SAI). The method of calculating how much aid you are eligible for has changed significantly. Expected Family Contribution (EFC) is no longer the metric used to calculate need based aid. Instead, a new metric, Student Aid Index (SAI), is used. To help determine what you qualify for, review the Student AidIndex Chart and Calculator to see how your family will score.
Or go to: https://tinyurl.com/3ejh26ef.

Determining which parent completes the form in the case of a divorce or separation. Previously, in a two-parent household, either parent could complete the FAFSA. However, if the parents were divorced or separated, the custodial parent was required to fill out the FAFSA and that parent’s income and assets were counted for financial aid purposes. The income used was for the prior-prior year, meaning if you were submitting the FAFSA in 2022, you used your 2020 tax return, instead of the most recent return.

https://www.lendingtree.com/student/colleges-no-student-loans-policy/.

For more comprehensive information on the changes to the FAFSA application process, read “Seven Major FAFSA Changes: What Families Need to Know” (Kiplinger Personal Finance, February 16, 2023). Or go to: https://tinyurl.com/bdfykxcn.

There are two federal tax credits available to help with paying for college expenses. The American Opportunity Tax Credit provides a tax credit of up to $2,500 per year per student. It is for qualified higher education expenses for students in their first four years of post-secondary schooling. However, there are income limits to be able to take advantage of this credit.

The Lifetime Learning credit allows for a tax credit of up to $2,000 per year per tax return. The credit is for qualified higher education expenses for students at any stage of their postsecondary education. Like the American Opportunity credit, there are income limits in order to use the credit.

Be sure to check the Internal Revenue Service’s Publication 970, “Tax Benefits for Education,” for more information on these tax credits, including current income limits.