529 Plans for Estate Planning, Gifting, and Grandparents
You may be familiar with the benefits of using 529 plans to save for college and graduate school expenses, including tax-free growth and tax-free withdrawals when used to fund allowed expenses. What many people do not know is that there are also significant estate planning and gifting advantages with these accounts.
Potential reductions to the estate tax exemption (currently over $11 million per individual) and the potential for higher estate tax rates continue to indicate the use of estate minimization strategies for affluent clients. Using 529 plans can generate attractive benefits, including those discussed below.
Retaining control of gifted assets
Gifts into a 529 plan remain the property of the owner, not the named beneficiary. Despite the benefit of still owning the asset, the balance in a 529 plan is excluded from the owner’s estate. This ability to retain ownership and control is unique in the estate planning realm since grantors are typically required to forgo control of trust assets for those assets to be excluded from the taxable estate. Additionally, an owner of a 529 plan can name a new owner at any time without constituting a gift. For example, a grandparent could name their child or grandchild as the account owner and no gift tax would be due.
Another attractive feature of 529 plans is that donors can gift five times the annual gift tax-free amount ($15,000) in the first year without paying gift tax. That means $75,000 could be gifted into a 529 plan for each child or grandchild in year #1. For a married couple, this would double to $150,000 per child or grandchild. If donors are seeking to minimize their estate by making as many tax-free gifts as possible while still retaining control of those assets, the 529 accelerated gifting feature could be very valuable in a planning scenario where accounts are established for themselves, children, and grandchildren.
Financial aid considerations
Recent changes to the FAFSA application for financial assistance to college students have made 529 plan ownership for grandparents much more attractive. Previously, students who received 529 plan dollars from grandparent-owned 529 plans were required to report 50% of that money as income on the FAFSA application. This inclusion significantly reduced financial aid eligibility. Beginning in the 2024-2025 school year, students will no longer have to report that cash support from grandparents on their FAFSA application. This is an important change for grandparents who otherwise would have hampered their grandkids’ access to financial aid by funding a 529.
Primary school education tuition
In December 2017, the rules around 529 plans changed such that $10,000 per year, per beneficiary, can be used pay qualified K-12 education expenses for private, public, and religious elementary and secondary schools. Currently, tuition is the only qualified expense eligible for that $10,000 annual withdrawal. Keep in mind that parents who plan to use their 529 plans for primary and secondary education expenses would need to plan for higher overall contributions to their 529 plans so that sufficient funds would still be available for college and graduate school expenses.
What if it gets overfunded?
Considering the many benefits to 529 plans, the concern of overfunding the plan is somewhat minimized. Dollars inside the account grow tax-free, as they would in an IRA. Since there are no required minimum distributions (RMDs) these dollars could have many years of tax-free growth, making the 529 plan an excellent estate asset for kids to inherit and then use to fund education for their own descendants. In addition, a 529 plan owner whose beneficiary receives financial aid can remove an equivalent amount from the 529 plan without penalty.
As you can see, there are many benefits to 529 plans that go beyond a simple savings vehicle for college education. Should you want to explore these concepts for your own financial plan, please reach out to your financial planner and begin the conversation.
As with other investments, there are generally fees and expenses associated with participation in a 529 plan. There is also a risk that these plans may lose money or not perform well enough to cover education costs as anticipated. Most states offer their own 529 programs, which may provide advantages and benefits exclusively for their residents. The tax implications can vary significantly from state to state.
About the Author
Jonathan Meaney, CFP®, AIF®
Jonathan joined Carter Financial Management in 2006 and serves on the Management Team. Prior to joining CFM, he worked at Southwest Securities as a financial advisor and assistant branch manager.