Tuesday, December 4, 2012

Thrifty Thinking: 529s and Taxes


As 2012 draws to a close, you can take advantage of year-end tax deductions - including a contribution to your 529 college savings plan.  

Did you know:
·         Many states offer residents a deduction or credit on personal income tax returns for contributions made to in-state programs, or even contributions to any 529 plan. 
·         Earnings in a 529 plan grow tax-deferred and are free of federal income tax when used for qualified higher education expenses under Internal Revenue Code Section 529.
·         Qualified higher education expenses include tuition, mandatory fees, books, supplies, and even room and board expenses.
·         Anyone can open a 529 account. Grandparents, other relatives or family friends can all be account owners, or can contribute to an existing account.

I was able to interview a Michael Fitzgerald, Chair of CSPN and Iowa State Treasurer about year-end contributions and saving for college.

How does contributing to a 529 help provide tax deductions?
There are a few important things to note when it comes to tax incentives and 529 plans. The biggest benefit is that earnings grow tax-deferred and are free of federal income tax when used for qualified higher education expenses. Those can include expenses like tuition, mandatory fees, books, supplies, and equipment required for enrollment or attendance. Room and board expenses are also eligible for students enrolled half-time or more. In addition, qualified higher education expenses also include expenses of a special needs beneficiary that are necessary in connection with his or her enrollment or attendance at an eligible school.
When it comes to gift taxes - an individual may contribute up to $13,000 annually ($26,000 for married couples filing jointly) without paying gift taxes or filing a gift tax return.
In addition to the federal tax benefits, thirty-four states and the District of Columbia offer state tax deductions or credits for contributing to certain 529 plans. However, most of these states require investors to contribute before the end of the year in order to reap the tax benefits in 2012. Anyone interested in contributing to a 529 plan should consider doing so before December 31st to take advantage of any year end state tax savings. To learn about the different state’s 529 plans, visit the College Savings Plans Network’s (CSPN) website at www.collegesavings.org.  
What are the advantages of a 529 versus using a savings account for education?
The major advantage is that as the money in the account grows, the earnings are tax-free when used for the approved higher education expenses. Savings accounts can be a great way for people to save up for college, but those earnings will ultimately be subject to normal federal and state taxes.
Unlike a typical savings account at a financial institution, many 529 plans have options which allow investors with small children to select options which include equities and bonds.  In addition, most plans have at least one age-based option which allows the investor to set their account and as the child ages, the investments will become more conservative. 
Who can take advantage of the tax deductions for a 529?
While there is not a federal income tax deduction for 529 plans, the 529 account holders benefit as they do not have to pay tax on account earnings. Gifters benefit because they do not have to pay gift taxes or file a gift tax return up to $13,000 per person per year.  For the thirty-four states and the Distirct of Columbia that provide tax deductions or credits, taxpayers in those states can take advantage of the additional tax incentives.
How can someone make sure they're getting the tax deduction filed correctly?
Every 529 plan issues 1099-Qs for distributions from a 529 plan.  Individual taxpayers are required to keep documentation to support that the funds were used for qualified expenses if they do not report the withdrawal as income.  Individual state requirements may vary, check with your local tax agency for guidance.
 
About College Savings Plans Network (CSPN)
The College Savings Plans Network (CSPN) is a national non-profit association and the leading objective source of information about Section 529 College Savings Plans and Prepaid Tuition Plans—popular, convenient and tax-advantaged ways to save for college. An affiliate of the National Association of State Treasurers (NAST), CSPN brings together administrators of 529 savings and prepaid plans from across the country, as well as their private sector partners, to offer convenient tools and objective, unbiased information to help families make informed decisions about saving for college.

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