A lot of people would like to set aside money for loved ones that can be used to pay for college expenses in the future. There are a lot of different ways to save, and as a layperson, you may not know how to proceed.
Ideally, you want the assets to grow over the years, but what about the tax implications? And what if circumstances change and you need the money yourself, even though you had the best intentions?
If you are in this position, you should consider the utilization of a 529 college savings plan.
The best way to look at the structure of a 529 plan is to compare it to a Roth individual retirement account. If you have a Roth IRA, you make contributions into the account after taxes have been paid on the income.
You can choose to invest the assets in mutual funds, stocks, bonds, etc. Distributions are not taxable, because you made after-tax contributions.
Everything is pretty much the same with a 529 college savings plan. You make contributions into the account after taxes are paid on your income. As long as the beneficiary uses the resources to cover approved educational expenses, there is no further taxation.
The maximum aggregate contribution for a 529 plan in California is $529,000. There is no annual contribution limit, but there are gift tax implications. A contribution into a 529 plan is considered to be a taxable gift by the IRS.
However, the first $16,000 that you give to any individual during a calendar year is exempt. With this in mind, you may want to limit your contributions to $16,000 a year. If you are married, you and your spouse can contribute as much as $32,000 a year into one account.
While the gift tax angle is worth mentioning, it really does not matter unless you are a very high net worth individual. If you go over the $16,000 in a given year, you have to use some of your unified gift and estate tax exclusion to give the gift tax-free.
This year, the unified exclusion is $12.06 million. No taxes would be due, but from an administrative standpoint, you would have to file IRS form 709 for the year during which the gift was given.
Who Can Contribute?
Let’s say that you establish a 529 plan for the benefit of your granddaughter. Obviously, you and your spouse can contribute, but it does not stop there. Her parents, her other grandparents, aunts, uncles, and anyone else that wants to pitch in is free to do so.
Assets in the account can be used to pay for tuition, living expenses, books and fees, and equipment and technology like desktop and laptop computers, scanners, printers, and internet access.
In addition to college expenses, up to $10,000 can be used to cover for K-12 costs. It should be noted that the account owner can withdraw money at any time, but there is a 10 percent penalty, and income taxes would be applicable.
Student Aid Impact
We should point out the fact that a person that is going to use the funds to pay for their own schooling can establish a 529 account.
If it is set up by a parent, there is minimal student aid impact in most cases. There is some negative impact if the student owns the account, and the negative affect is greatest when a grandparent is the account owner.
Schedule a Consultation Right Now!
Now is the time for action if you are going through life without a plan. You can send us a message to request a consultation appointment, and our Burbank estate planning office can be reached at 818-937-2335.