How to Use a 529 Plan to Manage Education Expenses

Jack says:

Now that my son is in college, I need practical tips for using my 529 saving plan. I’m wondering how much should I withdraw from it, what are the tax consequences, and if I need to save my receipts. Thanks for your help and great podcast.

Jack, I appreciate your question and want to congratulate you on being such a prepared parent! There’s a lot to consider when it comes to saving for college and helping a child create a strong financial foundation.

Whether schools and colleges open up virtually or in-person in 2020, the cost of education is incredibly high. This post will explain how to use a 529 plan to make your money go farther. I’ll offer tips for choosing the right plan, managing it wisely, and boosting your 529 contributions. 

What is a 529 savings plan?

Jack has money in a tax-advantaged account called a 529 savings plan. With these plans, you make contributions and choose investments from a menu, similar to a retirement account. Everyone can use a 529 because there are no restrictions on annual income.

Most states offer at least one 529 plan. However, the fees and benefits, such as the maximum contribution limit and investment options, vary. You typically don’t have to be a resident of a state to participate in its plan. For instance, you could live in New York, participate in a Florida 529 plan, and use the money to pay for a school in California.

No matter where you live or which state’s 529 plan you choose, your earnings in the account are tax-free, as long as you spend the funds on qualified education expenses.

No matter where you live, or which state’s 529 plan you choose, your earnings in the account are tax-free, as long as you spend the funds on qualified education expenses, which we’ll cover in a moment. Unlike a retirement account, your contributions to a 529 plan are not deductible on your federal tax return.

However, some states that collect income tax offer a deduction or a credit on your state tax return for residents who choose an in-state 529 plan. That could add up to significant savings, depending on where you live.

Therefore, the tax benefits of a 529 plan vary depending on your home state, how much account growth you receive, and which plan you choose. The earlier you start saving and investing in a 529, the more potential growth and tax savings you could have.

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