Opening a 529 account to help pay for your child’s future education expenses can do wonders for both your financial state and your child’s future financial state.
If you haven’t done so already, be sure to read An Intro on Investing in a 529 Account for Your Child to get a grasp on the fundamentals regarding rules pertaining to 529 accounts. After learning the basics, you can better understand Why You Should Consider Frontloading a 529 Account for Your Child.
Some of us are fortunate enough to have family and/or friends also want to contribute to your child’s future educational needs. If you find yourself in this situation, then you are in the right place.
This Q&A style article will help provide insight on whether these individuals should open up their own 529 accounts and list your child as the beneficiary or if it might be better to simply contribute to your existing 529 account.
Let’s get started.
CAN FAMILY AND FRIENDS CONTRIBUTE TO YOUR EXISTING 529 ACCOUNT?
Typically both the 529 account owner as well as non-account owners can contribute money to a 529 account.
As described by The College Savings Plans Network (CSPN), an organization created by The National Association of State Treasurers for officials serving at the state level of government to share information with those in the general public looking to save for education, laws regarding 529 plans can differ by state so it is best to research the state sponsoring your 529 plan.
CAN FAMILY AND FRIENDS OPEN THEIR OWN 529 ACCOUNTS?
As covered in An Intro on Investing in a 529 Account for Your Child, a 529 account can be opened by anyone that is at least 18 years old and has a social security number.
CAN THE SAME BENEFICIARY BE LISTED ON MULTIPLE 529 ACCOUNTS?
A beneficiary must be designated when opening a 529 account. The requirements to be listed as a beneficiary are the following:
- Being either a United States Citizen or resident alien
- Having a social security number or federal tax ID number
Using this information, your child can be assigned the role of beneficiary on both your 529 account as well as other 529 accounts.
This allows for a potential scenario where the parent of the child owns a 529 account, a grandparent of the child owns a 529 account, and a friend owns a 529 account all with your child listed as the beneficiary.
This also provides the opportunity for each of the child’s parents to own separate 529 accounts if preferred.
HOW DOES BEING THE 529 ACCOUNT OWNER IMPACT ACCOUNT MANAGEMENT?
Only the account owner can make decisions regarding how the account is managed. These actions include if and when the money in the 529 account is withdrawn and if the beneficiary listed on the account is changed.
The 529 account owner can also change how the money in the 529 account is invested. However, as the Financial Industry Regulatory Authority (FINRA) explains, doing so is limited to twice per year or when the beneficiary is changed.
Therefore, if your child’s grandparents and/or friends own their own 529 accounts, they can make these decisions for their own 529 accounts. However, if they instead choose to contribute to your existing 529 account, you will maintain control over these decisions.
HOW DOES BEING THE 529 ACCOUNT OWNER IMPACT POTENTIAL TAX BENEFITS?
As covered in An Intro on Investing in a 529 Account for Your Child, there are no federal tax deductions or credits to be gained when contributing to a 529 account.
While, not all states offer tax benefits, the majority of them do. These can come in the form of either a tax deduction or a credit.
The states that currently provide these tax breaks are listed below. In addition, you can investigate plan from each state by clicking on the state.
It is recommended that you click on your state of interest to visit it’s 529 page for more information as states will make changes frequently. However, for brevity, pertinent information is also listed here:
– The deduction is up to $5,000 each year for individual contributors and up to $10,000 for those filing jointly.
– Unique Contribution Opportunity: Those who reside in Arizona get an Arizona state income tax deduction when making contributions to any state’s 529 plan.
– The deduction is up to $2,000 each year for individual contributors and up to $4,000 for those filing jointly.
– Unique Contribution Opportunity: Those who reside in Arkansas get an Arkansas state income tax deduction when making contributions to any state’s 529 plan.
– The deduction is up to $5,000 each year for individual contributors and up to $10,000 for those filing jointly.
– Contributions made to a 529 plan from a state other than Arkansas are deductible up to $3,000 each year when made by an individual and up to $6,000 each year for those filing jointly.
– Unique Tax Opportunity: Contributions greater than the yearly deduction cutoff can be used for state income tax deductions through the next 4 years maximum.
– The deduction is up to $20,000 if filing as single and up to $30,000 if filing jointly.
– The deduction is for up to $5,000 each year for an individual contributor and up to $10,000 for those filing jointly
– Unique Tax Opportunity: Contributions greater than the yearly deduction cutoff can be used for state income tax deductions through the next 5 years maximum.
– The deduction is for up to $4,000 each year for an individual contributor and up to $8,000 for those filing jointly.
– Special Note: The deduction is per tax payer rather than per beneficiary.
– Unique Tax Opportunity: Contributions greater than the yearly deduction cutoff can be used for state income tax deductions through the next 5 years maximum.
– The deduction is for up to $4,000 each year for an individual contributor and up to $8,000 for those filing jointly
– The deduction is for up to $6,000 each year for an individual contributor and up to $12,000 for those filing jointly
– The deduction is for up to $10,000 each year for an individual contributor and up to $20,000 for those filing jointly
– The credit is for up to 20% of contributions made up to $1,000 each year or up to $500 for those married but filing separately
– The deduction is per beneficiary for up to $3,522 each year for an individual contributor and up to $7,044 for those filing jointly
– Unique Contribution Opportunity: Those who reside in Kansas get a Kansas state income tax deduction when making contributions to any state’s 529 plan.
– The deduction is per beneficiary for up to $3,000 each year for an individual contributor and up to $6,000 for those filing jointly
– The deduction is per beneficiary for up to $2,400 each year for an individual contributor and up to $4,800 for those filing jointly
– Unique Tax Opportunity: Contributions greater than the yearly deduction cutoff can be used for state income tax deductions in future tax years.
– The deduction is per beneficiary for up to $2,500 each year.
– Contributions greater than the yearly deduction cutoff can be used for state income tax deductions through the next 10 years maximum
– The deduction is per beneficiary for up to $1,000 each year for an individual contributor and up to $2,000 for those filing jointly
– The deduction is per beneficiary for up to $5,000 each year for an individual contributor and up to $10,000 for those filing jointly
– Unique Contribution Opportunity: Those who reside in Minnesota get a Minnesota state income tax deduction when making contributions to any state’s 529 plan.
– The deduction is up to $1,500 each year for individual contributors and up to $3,000 for those filing jointly.
– Unique Tax Opportunity: If a state income tax deduction is not claimed, the contributor may instead receive a tax credit equivalent of 50% of the contribution up to a maximum credit of $500 based on adjusted gross income.
– Unique Contribution Opportunity: Those who reside in Minnesota get a Missouri state income tax deduction when making contributions to any state’s 529 plan.
– The deduction is per beneficiary for up to $8,000 each year for an individual contributor and up to $16,000 for those filing jointly
– The deduction is per beneficiary for up to $10,000 each year for an individual contributor and up to $20,000 for those filing jointly
– Unique Contribution Opportunity: Those who reside in Montana get a Montana state income tax deduction when making contributions to any state’s 529 plan.
– The deduction is per beneficiary for up to $3,000 each year for an individual contributor and up to $6,000 for those filing jointly
– The deduction is per beneficiary for up to $10,000 each year for an either an individual contributor or a contributor filing jointly, but only up to $5,000 for those married but filing separately.
– The deduction matches the entire contribution made to a New Mexico 529 Plan. However, this deduction is only available to those who reside in New Mexico.
– The deduction is per beneficiary for up to $5,000 each year for an individual contributor and up to $10,000 for those filing jointly
– The deduction is per beneficiary for up to $5,000 each year for an individual contributor and up to $10,000 for those filing jointly
– The deduction is for up to $4,000 each year for both an individual contributor and a contributor filing jointly
– Unique Tax Opportunity: Contributions greater than the yearly deduction cutoff can be used for state income tax deductions through future years.
– The deduction is for up to $10,000 each year for an individual contributor and up to $20,000 for those filing jointly
– Unique Tax Opportunity: Contributions greater than the yearly deduction cutoff can be used for state income tax deductions through the next 5 years maximum.
– The credit is for up to 100% of contributions made up to $150 each year or up to $300 for those filing jointly. The amount of contribution needed to obtain the full tax credit increases based on the contributor’s yearly income.
– Unique Contribution Opportunity: Those who reside in Pennsylvania get a Pennsylvania state income tax deduction when making contributions to any state’s 529 plan.
– The deduction is per beneficiary for up to $16,000 each year for an individual contributor and up to $32,000 for those filing jointly
– The deduction is per beneficiary for up to $500 each year for an individual contributor and up to $1,000 for those filing jointly
– Unique Tax Opportunity: Contributions greater than the yearly deduction cutoff can be used for state income tax deductions through future years.
– The deduction matches the entire contribution made to a South Carolina 529 plan up to $520,000 for both individual and those filing jointly
– The credit is on up to 4.85% of a contribution for up to $2,130 per beneficiary if filing as single, allowing for a maximum tax credit of $103.31. If filing jointly, the credit is up to 4.85% of a contribution for up to $4,260 per beneficiary, allowing for a maximum tax credit of $206.61.
– Special Note: State income tax credit is only provided to the 529 account owner even if a contribution is made by a non-account owner.
– The credit is on up to 10% of a contribution for up to $2,500 per beneficiary for an individual contributor and up to 10% of a contribution for up to $5,000 per beneficiary for those filing jointly.
– The deduction is per beneficiary for up to $4,000 each year for an individual contributor and up to $4,000 for those filing jointly
– Unique Tax Opportunity: Contributions greater than the yearly deduction cutoff can be used for state income tax deductions through future years.
– Special Note: State income tax deductions are only provided to the 529 account owner even if a contribution is made by a non-account owner.
– The deduction matches the entire contribution made to a West Virginia 529 plan up to $550,000 for both individual and those filing jointly
– The deduction is per beneficiary for up to $3,380 each year for an individual contributor, up to $3,380 for those filing jointly, and up to $1,690 if married filing separately or divorced.
– Unique Tax Opportunity: Contributions greater than the yearly deduction cutoff can be used for state income tax deductions through future years.
Looking over the list above, there are a few important aspects to note.
1. Where the Contributor Lives Can Matter if Tax Benefits are the Goal
First, it is evident that all of these states provide some form of income tax benefit when you pay taxes in that state. Therefore, the geographic location of where the 529 account contributor lives matters in regards to qualifying for a state income tax benefit.
In other words, if your child’s grandparent makes a contribution to your 529 account, depending on the state, your child’s grandparent may not receive a state-level tax deduction if child’s grandparent lived in a state that is different from the state sponsoring your child’s 529 account. However, if that grandparent opened a 529 account in their own state and that state did offer tax benefits for contributions, then those benefits could be obtained if contributions are made.
Of course, it is also possible to pay taxes in a state in which you do not live if you have business interests there. Be sure to talk with your tax expert about this as needed.
2. States Offering Tax Benefits for Contributions Made to Any State’s 529 Plan
You may have also noticed that a few states in the list above provide state income tax benefits to the contributor even if they contribute to another state’s 529 plan. To briefly recap, these states are the following:
- Arizona
- Arkansas
- Kansas
- Minnesota
- Missouri
- Montana
- Pennsylvania
Therefore, if your child’s grandparent lives in one these seven states listed above, they could make a contribution to your 529 account in a different state and still get a state income tax benefit in their own state.
3. High Contribution Limits Can Provide a Big Opportunity
There are four states that place extremely high limits on the amount of contribution that can qualify for a tax benefit. These are the following:
- Colorado
- New Mexico
- South Carolina
- West Virginia
If your child’s grandparent would like to make a substantial lump sum contribution to a 529 account, then these states could be good places to do it.
HOW DOES BEING THE 529 ACCOUNT OWNER IMPACT FINANCIAL AID?
When a Free Application for Federal Student Aid (FAFSA) is submitted, a number known as the Expected Family Contribution (EFC) is determined. This amount is intended to reflect how much money your child and you as your child’s parent should be able to pay for the child’s education.
After calculating the EFC, this value is then subtracted from the cost to attend your child’s school of choice. The larger the resulting number is, the more need-based financial aid will be provided to your child.
While assets such as your house and retirement accounts are not included in the EFC calculation, a 529 account is included. Therefore, the value of a 529 account can reduce the amount of need-based financial aid provided through the FAFSA process.
However, the money in a 529 account is weighted differently depending on who owns the account. The more weight, indicated by a larger percentage, then the more heavily the assets are counted. This, in turn, leads to a higher expected family contribution value and results in less need-based financial aid offered.
For a more detailed overview of how assets are weighed in determining the expected family contribution value, you can read the in-depth calculations on the Federal Student Aid website. To focus on the important points regarding 529 account ownership’s effect on financial aid offerings, though, continue reading.
1. If an Independent Student Owns the 529 Account
If the 529 account is owned by what is termed as an “independent student,” then it will be categorized as the student’s asset and weighted at 20%. On the other hand, if your child is considered “dependent,” then both the child’s and the child’s parents’ financial information is reported on the FAFSA.
2. If a Parent Owns the 529 Account
Your child’s status of being considered either dependent or independent depends on their answers to questions found on the U.S. Department of Education’s office of Federal Student Aid’s website.
If the child is considered “dependent,” then both the child’s and the child’s parents’ financial information is reported on the FAFSA. A 529 account owned by a parent is weighted up to 5.64%. In other words, the EFC formula assumes that only 5.64% of the parent’s investments will be used to pay for their child’s education. This is great, because 5.64% is a small percentage allowing for greater financial assistance to be provided.
In addition, the Education Savings and Asset Protection Allowance can help exclude a portion of the parent’s assets from being included in this calculation. Take a look at Table 7: Education Savings and Asset Protection Allowance on the Federal Student Aid’s website “EFC Formula, 2021-2022” to find how much of a parent’s assets can be shielded from being included in the EFC calculation. For example, if you’re like me where you expect to be 50 years old and still married by the time your child is ready for college, then $7,000 of your assets can be protected from the EFC calculation.
3. If Someone Other Than the Student or Student’s Parent Owns the 529 Account
If the 529 account is owned by someone other than the child or the child’s parent, such as a grandparent or a friend, then the 529 account is not reported on the FAFSA. This can sound like a great opportunity to obtain the maximal financial assistance possible, but there’s a catch: Any money withdrawn from that 529 account will be weighted at 50%.
Here is an example to illustrate this downside. Let’s say your friend offers to open a 529 account, list your child as the beneficiary, list themselves as the account owner, and deposit $5,000 into the account. With a conservative rate of return of 6% and no further deposits made, that investment could become $14,272 in 18 years. However, upon withdrawal, 50% of this would be lost in need-based financial aid eligibility – that’s a loss of more than $7,000.
However, if your child ends up in a position where someone other than you or your child owns a 529 account other than you or your child and your child is listed as the beneficiary on the account, all hope is not lost. Since the FAFSA calculates need-based financial aid using financial information from 2 years prior, you can consider waiting to withdraw money from the 529 account until your child reaches their third or fourth year of college.
FINAL THOUGHTS. . .
I hope you found this overview on 529 accounts helpful. We’ve covered who can own a 529 account and how being the owner of a 529 account impacts account management, taxes and need-based financial aid.
If you haven’t done so already, be sure to read An Intro on Investing in a 529 Account for Your Child and Why You Should Consider Frontloading a 529 Account for Your Child to learn more.
Before moving on, please help make the Money Mobilizer a supportive and welcoming community for our current and future colleagues by leaving a question or sharing your knowledge below!
