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There are many ways to build wealth for education, and 529 savings plans are one of the most common. Operated by a state, a 529 plan may be used to pay for almost all education expenses (, 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 education 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 savings plans.
Several states offer a tax deduction for their residents who start a 529 plan. For example, participating in New York's 529 plan1 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 plan1, 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. Additionally, you can also make a lump sum of $75,000 in the first year of a five–year period, without triggering 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 savings plan1 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. However, there are other aspects of a 529 plan to consider, such as the investment options and annual investment management expenses. How does the plan compare to other plans available? You need to take into account all aspects of a plan before making a decision.
To help you better understand how a 529 savings plan works and compares to other education savings products, such as the Coverdell Education Savings Account, here's a quick overview.
1 Availability of varying state 529 savings plans are determined by the Broker/Dealer. Not all state 529 savings plans are available through Broker/Dealers. Please consult your Financial Advisor for information regarding a state's 529 savings plan availability at Citi Personal Wealth Management.
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 2020 without triggering 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 2018, federal law now allows 529 plans to cover qualifying expenses for elementary and secondary (K–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. A 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 triggering 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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You should consider the investment objectives, risks, charges, and expenses of any 529 Plan Investment Options carefully before investing. This and other information is contained in the 529 Plan Disclosure Document and official statement, which should be read carefully. Before investing, you should read the Plan Disclosure Document and official statement carefully and consider whether your state of residency—or your intended Designated Beneficiary's state of residency—offers any benefit, such as a state tax deduction or other state benefits such as financial aid, scholarship funds, and protection from creditors that are only available for investments in such state's qualified tuition program. It is also important to understand the factors to consider when determining a Share Class selection for the investment as it relates to the costs you will incur over the total holding period for an account. You may obtain a 529 Plan Disclosure Document and official statement by contacting a Financial Advisor.
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