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529 Plans Have Changed: Are You Making the Most of Yours?

529 plans were created by Congress in 1996. Since then, various pieces of legislation have made changes to these education savings accounts, most recently in 2017 and 2022. In this article, we’ll explain what 529 plans are and how they work. We’ll also cover the recent changes you need to know about to get the most out of your account.

What is a 529 Plan?

Officially known as qualified tuition programs (QTPs), these education savings vehicles are designed to encourage saving for future college expenses. They can also be used for private school tuition at the primary and secondary levels. 529 plans come in two types: investment accounts and prepaid tuition and offer certain tax advantages. 

Types of 529 College Savings Plans

There are two types of 529 plans: education savings and prepaid tuition. Every state sponsors at least one type of plan. You can enroll in your state’s plan or compare options from other states.

College Savings Plans:

  • An investment account with the potential for tax-free growth and withdrawals for qualified education expenses.
  • Funds can be used for tuition, fees, and room and board.
  • In addition to higher education, college savings plans can be used for private school tuition at the elementary or secondary level.
  • Choose from a variety of investment options.
  • Start early and let compounding interest help you grow your child’s college savings account.
  • Offered by Iowa, Minnesota, and South Dakota.
  • As with all investment products, there is a chance of loss and no guarantee of a certain return.

Prepaid Tuition Plans: 

  • Pre-pay your child’s future tuition at today’s prices.
  • Funds can only be used for tuition, not room and board.
  • You can also pre-pay for private school tuition. 
  • Not offered by Iowa, Minnesota, or South Dakota.
  • These plans aren’t guaranteed by the federal government, but they may be guaranteed by the state.

Tax Advantages of 529 Plans

Tax-free earnings and withdrawals are one of the primary benefits of having a 529 plan. Tax benefits may vary depending on your state and the type of 529 plan you have.

State Income Taxes:

States may offer a tax benefit for contributing to a 529 plan. Withdrawals used for qualified education expenses may be tax-exempt.

Federal Income Taxes:

Contributions to your 529 plan are not tax-deductible at the federal level. Withdrawals are deductible on your federal tax return as long as the funds are used for qualified education expenses. 

529 Plan Fees

The last thing to know about 529 plans is that both types of plans may incur enrollment and administrative fees, program and asset management fees, and sales loans and redemption and distribution fees. Review fees carefully before choosing a plan. You aren’t limited to your own state’s 529 plans, so you can shop around.

Changes to 529 Plans Over Time

Since their introduction in 1996, 529 plans have been updated several times over the years in different pieces of legislation. These changes have often been geared towards increasing flexibility and including a wider range of educational expenses. While originally reserved for higher education, 529 plans can now be used for primary school tuition as well. Let’s look at the two most recent pieces of legislation that changed how 529 plans work.

Tax Cuts and Jobs Act, 2017

Under the TCJA, “qualified education expenses” now includes tuition (up to $10,000 per year) at an elementary or secondary private or religious school. However, not every state (including Minnesota) offers a tax exemption for elementary and secondary school tuition. In that case, you may owe state income taxes on this type of withdrawal.

SECURE 2.0 Act, 2022

Before this piece of legislation, any withdrawal from a 529 plan not used for qualified education expenses was subject to federal income tax plus an additional 10% penalty on earnings. Under Secure 2.0, the beneficiary of a 529 plan can rollover up to $35,000 into a Roth IRA account. Rollovers are subject to IRA annual contribution limits, the 529 plan must’ve been open for at least 15 years, and contributions from the previous five years are not eligible. Also, under the original SECURE Act of 2019, up to $10,000 from a 529 plan can be used to repay the beneficiary’s student loans.

Retirement Planning and Passing Generational Wealth

These 529 plan 2024 changes mean that leftover funds could be eyed for retirement savings or as a way to pass on generational wealth. However, there are some caveats to keep in mind:

  • Remember the lifetime rollover limit of $35,000.
  • But you still have to abide by the annual Roth contribution limit, which for 2024 is $7,000 if you're under age 50 and $8,000 if you're age 50 or older.
  • So, if you wanted to roll over the entire $35,000 lifetime amount, you’d have to do so over five to six years under the current contribution limits. 
  • The beneficiary of the 529 plan must also be the owner of the Roth IRA, and they must have earned income at least equal to the amount of the rollover.
  • It’s best to wait until later in 2024 for more information about how the IRS and states interpret these new changes. For example, we don’t know if a change in beneficiary will restart the 15-year waiting period or whether states will offer the same tax-free and penalty-free rollovers.

Overall, the point of this change is to encourage people to save for college, and not penalize them if they save more than they need. But 529 plans are not intended to be a retirement savings account.

State-Specific Resources

As you can see, a lot depends on state law when it comes to 529 plans. While you can shop around for plans from other states, it’s best to start by familiarizing yourself with the plan(s) your state offers and what the rules are around tax benefits. Check out the 529 plan websites for Iowa, South Dakota, and Minnesota below. And if you have any questions about saving for college or how that fits into your overall financial plan, our Wealth Management team would be happy to discuss your goals with you. Reach out to us anytime!

About Peoples Bank

Peoples Bank is Where Values Matter! We’ve been providing modern banking services to the people of Iowa since 1945. In 2006, we opened our first Minnesota location in Jasper. And in 2022, we brought our community banking to North Sioux City in South Dakota. We offer a wide range of personal banking products and services, including savings accounts and Wealth Management. We are here to help you plan for your child’s college education—contact us today!