The 529 plan is designed to help you save on the cost of higher education for your child or family member. These programs are administered and administered at the state level, so some aspects may vary from state to state, but they all serve the same purpose. There are two 529 plan options: prepaid and savings. A prepaid 529 plan basically lets you pay for future tuition at today’s prices, while the more common 529 savings plan works similarly to a retirement savings account like an IRA.
Here are three reasons why every parent should consider a 529 plan.
1. There are tax benefits
You make after-tax contributions to your 529 plan, but unlike a regular brokerage account, your investments grow and compound taxes are deferred. Contributions to a 529 plan are not federally tax-deductible, but some states allow deductions. For example, North Carolina does not allow deductions, South Carolina allows you to deduct your entire contribution, and Georgia allows deductions up to $4,000 (or $8,000 if you are a joint beneficiary).
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In addition to tax-deferred tax increases on your investments, you can also withdraw tax-deductible qualifying educational expenses from your 529 plan, such as tuition, housing, computers and software, books, and meal plans. If you plan to send your child to private school during K-12, you can also use 529 plan tuition (up to $10,000).
If you’re saving for your child’s tuition, you might as well save in a tax-advantaged account. Delaying your currency compounding taxes with tax-free withdrawals can easily save you thousands of dollars in taxes.
2. They have high contribution limits
Unlike the Coverdell Education Savings Account, which has a $2,000 contribution limit, the 529 plan has no annual contribution limit. However, depending on your state, their total donation limit ranges from a few hundred thousand to over a million. The total contribution limit is how much you can contribute to the plan in total, but there is no rule on how much you can contribute each year.
If your goal is to contribute $100,000, you can donate $10,000 over 10 years, or $25,000 over four years; the choice is all yours and about your means. Once you’ve paid your state’s total contribution limit, you can no longer contribute to the account, but it will continue to make money. If you have multiple children, these high contribution limits can be a major benefit.
3. You don’t need to be a seasoned investor
Although the money in a 529 plan is being invested, you don’t need to be a seasoned investor to have a good portfolio that provides good returns over the long term. If you prefer to just set up your investments and not worry, you can opt into one of your plan’s age-based funds. These funds are reallocated over time and become more conservative as your child approaches college age. Since equities are riskier and higher rewarding, the fund will focus on equities early on for growth, then move to “safer” investments to focus on retaining the gains you’ve made.
Age-based funds tend to charge higher fees because they are actively managed, but if you take a “set it and forget it” approach, it’s well worth it.
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