One of the greatest parts of our jobs as a financial professionals is working with families and helping them pursue their goals. Among the most important of those family goals is saving for college. You’ve probably heard about a few of these funding vehicles before, but we wanted to give you a brief overview for your reference:
529 Plans are sponsored by individual states and allow individuals to contribute after-tax funds that are used for qualified education expenses. Starting in 2024, the SECURE Act 2.0 allows recipients to roll over unused savings into a Roth IRA, if it benefits the same individual under certain conditions. Currently, money from a 529 that is used for non-educational expenses is subject to penalties and taxes.1
Coverdell Education Savings Account (ESA) contributions are also made with after-tax dollars, and funds are designed for qualified education expenses. Coverdell ESAs can be used for K-12 expenses in addition to higher education costs. Contributions may be made until the account beneficiary turns 18. The money must be withdrawn when the beneficiary turns 30, or taxes and penalties may occur.2
The Uniform Gifts to Minors Act (UGMA) or Uniform Transfers to Minors Act (UTMA) are all-purpose savings and investment accounts that are often used to save for college. They take the form of a trust. When you put money in the trust, you are making an irrevocable gift to your child. You manage the trust assets until your child reaches the age when the trust terminates (i.e., adulthood). At that point, your child can use the UGMA or UTMA funds to pay for college; however, once that age is reached, your child can also use the money to pay for anything else.3
Using a trust involves a complex set of tax rules and regulations. Before moving forward with a trust, consider working with a professional who is familiar with the rules and regulations.
The American Opportunity Tax Credit (AOTC) and the Lifetime Learning Credit (LLC) are two tax credits available to eligible taxpayers. The AOTC provides a tax credit of up to $2,500 per eligible student for the first four years of post-secondary education. On the other hand, the LLC offers a tax credit of up to $2,000 per tax return for any level of post-secondary education, including graduate courses, provided the taxpayer meets certain income requirements. These tax credits can help manage the amount of tax owed, making them one resource for families navigating the financial aspects of education.4
This article is for informational purposes only and is not a replacement for real-life advice, so make sure to consult your tax professionals to understand whether you might qualify for any tax credits before moving forward with AOTC or LLC.
As you and your family prepare your college strategy, our team is eager to help you along the way. As we said, it’s one of the best parts of our job!
1. SEC.gov, June 14, 2023
2. IRS.gov, April 7, 2023
3. SSA.gov, June 14, 2023
4. IRS.gov, February 16, 2023
A 529 plan is a college savings plan that allows individuals to save for college on a tax-advantaged basis. The state tax treatment of 529 plans is only one factor to consider before committing to a savings plan. Also, consider any fees and expenses associated with a particular plan. Whether or not a state tax deduction is available will depend on your state of residence. State tax laws and treatment may vary. State tax laws may be different from federal tax laws. Earnings on nonqualified distributions will be subject to income tax and a 10% federal penalty tax.
To qualify for the tax-free and penalty-free withdrawal of earnings, Roth 401(k) distributions must meet a 5-year holding requirement and occur after age 59½. Tax-free and penalty-free withdrawals can also be taken under certain other circumstances, such as the owner’s death. Employer matching is pretax and not distributed tax-free during retirement.
