Citi Personal Wealth Management
There are many ways to build wealth for education, and 529 college savings plans are one of the most common. Operated by a state, a 529 plan may be used to pay for almost all college expenses (i.e., for example room, tuition and board) and just about anyone can open one (including grandparents). Withdrawals are tax-free as long as you use the money for qualified college expenses. But there are other benefits that aren't as well known. These four steps can help ensure you're making the most of 529 college savings plans.
Several states offer a tax deduction for their residents who start a 529 plan. For example, participating in New York's 529 plan can mean a big tax savings for high earners who live in New York state. You can deduct up to $5,000 per year per person (or $10,000 for a joint filers).
Some plans, such as New Jersey's 529 plan, offer some scholarship funds to state residents whose children attend a college in New Jersey.
With a 529 plan, you, your spouse and anyone else, such as grandparents, can each make contributions of up to $15,000 per year without paying the gift tax. But you can also make a lump sum of $75,000 in the first year of a five–year period, without worrying about the gift tax. Essentially, you are up–fronting the funding of the plan. One warning: If you elect to do so, and you die before the end of that five–year period, the portion of the gift of the five–year period that was allocated to the period after your death will be included in your estate.
An important point: You can open a 529 college savings plan offered by any state, not just the one where you reside. A 529 plan offered in the state where you live may offer benefits such as a tax deduction, but are the annual investment management expenses higher than other 529 plans? And how do the investment options compare with other plans? You need to take into account all aspects of a plan before making a decision.
To help you better understand how a 529 college savings plan works and compares to other education savings products, such as the Coverdell Education Savings Account, here's a quick overview.
Save for education by investing in stocks, bonds, mutual funds, and certificates of deposit.
A 529 typically allows changes to investments just once a year, while there are no such limits on the Coverdell.
Contributions aren't deductible on your federal income tax return, though a state-income tax deduction may be available for 529 contributions to in-state plans.
Coverdell contributions are capped at $2,000 a year. You can fund these accounts only if your income falls below certain income thresholds.
In contrast, anyone can contribute up to $15,000 to a child's 529 in 2018 without worrying about the gift tax.*
Earnings grow tax-deferred and you can make tax-free withdrawals as long as they're used for qualified education expenses.
Starting in 2017, federal rules now allow 529 plans to cover qualifying expenses for private and religious schools from kindergarten through grade 12. There is a $10,000 per year per child limit on withdrawals. Not all states and educational institutions have adopted this new tax law. While Coverdell account can be tapped for expenses from kindergarten through college.
*With a 529 plan, you can also make a lump sum of $75,000 in the first year of a five-year period, without worrying about the gift tax. Essentially, you are up-fronting the funding of the plan. One warning: If you elect to do so, and you die before the end of that five-year period, the portion of the gift of the five-year period that was allocated to the period after your death will be included in your estate.
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