The power of an integrated wealth plan is that it is designed based on the goals you want to achieve for yourself and your family. But life isn’t static. Things change and goals change, and when they do, it’s important to understand how your plan can adapt.
At Edelman Financial Engines, we’ve long recommended using a 529 college savings plan as a tax-efficient way to save money for your children or grandchildren’s educational expenses. But what happens, if, after years of saving, you end up with excess funds in your plan?
It’s not an uncommon occurrence. There are many different reasons why you might have unused money in a 529 plan. For example, maybe you saved more money than needed to pay for college or received an unexpected windfall like an inheritance. Or the beneficiary of the 529 may have:
- Decided not to go to college or dropped out
- Chosen to go to a low-cost college where tuition is less than anticipated
- Received a scholarship or other financial assistance
- Been accepted into a U.S. military academy, where most costs are paid by the government
- Passed away or become disabled
No matter what the circumstance is, don’t worry. You’ve got options for unused funds within 529 plan rules.
Transfer unused 529 funds to another beneficiary
This option is as simple as it sounds. The IRS allows you to change the beneficiary of the 529 plan without tax consequences as long as they are qualifying family members of the original beneficiary. That could be a parent, sibling, first cousin, niece or nephew, among others.
Save it for a grandchild
Unlike an IRA or a 401k, there is no time limit for when you have to withdraw funds from a 529 plan. This allows you to leave any unused funds as a legacy gift to your grandchildren, who can use them to pay for their educational expenses. This option also provides an estate planning benefit as the value of the 529 plan is exempted from your taxable estate, even though you continue to retain control of the account.
Use the money to make student loan payments
Thanks to the SECURE Act, you can take tax-free distributions from a 529 plan to pay off both the principal and interest on a student loan. The lifetime limit for the beneficiary is $10,000, but you can also use an additional $10,000 each to pay back loans held by the beneficiaries’ siblings.
Possibly take 529 plan withdrawals not for education
In the unfortunate case of a beneficiary dying or becoming disabled, you can take nonqualified withdrawals without having to pay a penalty. You can also do the same if they attend a U.S. military academy where the federal government pays most of the educational costs. In addition, if the beneficiary receives a scholarship for college, you can withdraw funds, up to the amount of the award, without penalty.
However, in all the above cases, you will have to pay taxes on any capital gains in the account.
Use the 529 account for yourself or your spouse
Many people these days find themselves embarking on the second or even third act of their life. This could mean a career change, starting a new business or pursuing a hobby during retirement, any of which might have an educational component that can be paid for with unused 529 funds.
This is when it’s time to get creative and think out of the box.
Maybe you want to go back to school to finish your degree, or take an existing one to the next level through graduate school?
What about a study abroad program? Excess 529 funds can be used to pay for tuition, room and board, and other related expenses (though not travel).
My grandfather even took a class at a local community college on how to fix small engines, just so he could work on his lawn mower. That can be considered a qualified educational expense.
Take a nonqualified distribution
If you’ve weighed all the options and don’t have any other use for your unused 529 funds, you can always take a nonqualified distribution. Because your contributions were made with after-tax dollars, they will not be taxed or penalized. However, any capital gains in your account will be taxed and can be subject to a 10% penalty.
But remember, there are no time restrictions with a 529 plan and circumstances could change in the future. A child or grandchild who chooses not to go to college now could change their mind later in life or decide on a professional study program.
In the meantime, you can still make contributions and continue to take advantage of the tax-free growth a 529 plan offers.
If you have questions about a 529 college savings plan and how it fits into an integrated wealth plan, contact an Edelman Financial Engines advisor today.
This material was prepared for informational and/or educational purposes only. Although the information has been gathered from sources believed to be reliable, we do not guarantee its accuracy or completeness.
Neither Edelman Financial Engines, a division of Financial Engines Advisors L.L.C., nor its affiliates offer tax or legal advice. Interested parties are strongly encouraged to seek advice from qualified tax and/or legal experts regarding the best options for your particular circumstances.