529 Plan Withdrawal Rules for College Financing

529 plan withdrawal rulesIf your child is one of the millions of U.S. students who spread their wings to leave the nest and land at a college of their choice this fall, you may be feeling the same mix of excitement and trepidation. While they worry about making new friends and getting good grades while paying for your child’s college education and 529 plan withdrawal rules may be weighing on your mind. After all, the College Board estimates that four-year public school tuition, room and board has skyrocketed 80 percent in the last 20 years.

If you set up a state-sponsored 529 plan to help save and pay for college, you’re on the right track. With these plans, you don’t pay federal—and maybe not state—income taxes on the investment. But before you breathe a sigh of relief for having this financial cushion, there are a few 529 plan withdrawal rules you need to be aware of.

What can 529 funds be used for?

In broad terms, 529 funds can be used to  help pay for “eligible” expenses. These include tuition at an accredited college, fees, required textbooks, and room and board. But we all know paying for a child’s college education may involve much more. So, let’s take a look at what else may (and may not) be covered.

What else is covered:

Technology: Tech items like computers, laptops and printers can be covered by a 529 plan. In fact, 529 plan funds can be used for internet service and software required by the school.

Supplies: Lab supplies, pens, paper and more are covered.

Living off campus: Rent and food is covered at the same rate as it would cost to live on campus. Any rent and food costs beyond the cost of on-campus room and board are not eligible.

Studying abroad: If your child is planning to study abroad, 529 eligible expenses include tuition at qualifying overseas universities and room and board expenses that are based on the college’s budget calculations. Currency exchange rates won’t be reflected in these calculations.

What is not covered:

Room furnishings: While it would be difficult to live without bedding, furnishings and maybe a microwave, none of these items are covered under a 529 plan.

Transportation: Whether your child is within driving or flying distance of home, expenses to get to and from school are not eligible.

Student loans: Although used for school, student loans cannot be paid with 529 plan funds.

Insurance and health-related costs: Some colleges offer health insurance plans for students, as well as on-campus health services. None of these services are covered.

On-campus fitness club memberships: Even though the money is going to the college, this is not an eligible expense.

With 529 withdrawals come smart decisions

Now that we know what 529 plans cover, it’s time to dig deeper into 529 plan withdrawal rules.

  • Don’t take more than you need. If you withdraw more than needed for qualified education expenses, like those listed above, whoever receives the money—you or your child—will need to pay a 10 percent penalty tax on the non-qualified amount.
  • Withdrawals and expenses must happen in the same year. You cannot, for example, take money out in December to pay for a January tuition bill. Instead, ask that the contribution be made directly to the school.
  • Decide who receives the money. If you decide to have funds sent directly to the school, it could have implications with financial aid. And, it won’t help when you need to pay rent or for supplies. If your child receives the funds directly, they will need to keep detailed records of how the money is spent.
  • Understand tax credits. Paying for eligible expenses with a 529 plan disqualifies you from receiving the American Opportunity Tax Credit if you pay for all eligible expenses with plan money. The limit to get the credit is $4,000, so pay that first before dipping into the 529 plan to pay for the remaining expenses.
  • Plan for the future. The best scenario on college graduation day is to have depleted 529 plan funds. If you withdraw the remaining money, it’ll be subject to the 10 percent penalty tax. The funds could instead be used for post-graduate courses or be transferred to another beneficiary for their college education.

Need help? We’re up for the test!

529 plan withdrawal rules can be complicated. We recommend you work with your accountant if you have questions about IRS rules that govern the plan. If you are interested in establishing a 529 plan for your child, grandchild or another family member, contact us or call (920) 230-2215 to get started.

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