What is a 529 College Savings Plan?

July 9, 2021

One of the things that many parents start to think about when having a child is that child's future. As a parent, you wonder about who your child will grow up to be, what they'll do with their lives, what their interests and hobbies will be, where they will go to school, and so much more. 

College can get expensive. You can try to qualify for scholarship funds and protection from student debt and student loan repayments, but that can be difficult to achieve. One thing parents can do to help their child prepare for the future today is to start a savings plan like a 529 plan. 

What is a 529 Plan?

A 529 plan is a type of savings account. This 529 plan account comes with a specific savings plan designed for a child's educational expenses. 

These expenses can include their future college tuition, apprenticeship programs, and even K-12 educational expenses as well in some cases. 

529 plans and their features and guidelines are all designated by the state you live in. You'll need to see your state guidelines for the full details on the 529 plans available to you. 

The number 529 comes from section 529 in the Federal Tax Code or Internal Revenue Code (IRC). This section was put into place in 1996 and is what authorizes tuition programs and gives them a tax-free status with the IRS. 

There are two types of 529 plans, a 529 savings plan and a 529 prepaid tuition plan. 

What is a 529 Savings Plan?

A 529 savings plan is the most common type. It lets an education savings account grow while the account earnings are deferred from taxes. This investment option also allows your withdrawals from the account to be tax-free so long as they are used for educational expenses. 

Qualifying educational expenses can include things like college tuition, books, supplies, computers, or housing. 

The funds placed within a 529 savings plan are invested in mutual funds to allow the investment account funds to grow even more over time. You can choose what mutual funds you want the 529 savings to use. 

529 savings plan features and availability depend on the state you live in and the educational institutions involved. See your state for more details. 

What is a 529 Prepaid Tuition Plan?

The 529 prepaid tuition plan is the less common type. It is an account that lets you pay for educational tuition in advance. Generally, you'll need to designate a specific educational institution you want the payments to go to in advance as well. 

The reason people might choose this plan is it allows you to pay the existing tuition costs instead of the costs that will exist when your child is ready to go to college and the rates have gone up. 

These plans are not available for K-12 education but only for college tuition. It also generally does not cover extraneous educational costs like room and board. 

529 prepaid tuition plan features and availability depend on the state you live in and the educational institutions involved. See your state for more details. 

How Does a 529 Plan Work?

529 plans are meant to save money for educational expenses for your children. The account funds are for your child, but you as the parent are the account manager. 

These plans combine a savings account with an investment plan to make meeting your college savings goals easier to achieve. 

1. Choose between a 529 savings plan and a 529 prepaid tuition plan 

The very first thing you need to do is set down with anyone else involved in this savings plan and investment and have a talk. 

You'll want to discuss things like which plan to use, which investments to choose, how much you'd like to save, and how much you want to periodically put into the account. 

2. Learn about the 529 plans in your state

Research the features involved in the 529 plans available in your state. They may differ depending on where you live. Availability might also differ depending on where you live. 

3. Set up a 529 account 

Once you've done your research you can enroll in your state's 529 program and create an account for your child with you as the account owner and manager. 

4. Make 529 contributions 

Now that everything is in order you can start making contributions to your plan! You can start saving and investing toward the educational future of your child. 

What are the 529 Tax Benefits?

Are 529 contributions tax deductible? This all depends on your state. States offer different kinds of plans and different benefits to those plans. Whether there are tax benefits at all and what those tax benefits are all depends on the state. 

For example, residents of Utah can get a $98 tax credit for individuals and a $196 tax credit for joint filers. Meanwhile, residents of Vermont can get a $250 tax credit for individuals and a $500 tax credit for joint filers. It all depends on your state. 

Don't forget about your contributions during tax preparation

529 Pros and Cons

There are many pros to this college savings plan but there are a few cons to consider as well. 

Some of the pros include federal income tax benefits or state income tax benefits, investment options, and help growing your savings. 

Some of the cons include the funds must be used for educational expenses, each program and state has its own restrictions and requirements, and having a college savings account may affect the financial aid available to your child. 

In Conclusion, 

A 529 plan is a great way to save up for your child's educational expenses. It also comes with the added benefits of investing and potential tax credits. Weigh the pros and cons of your state's plan and find out if a 529 plan is right for you.