Paying the Tab
My daughter Melanie and I spent the weekend in Charlottesville, soaking in the atmosphere of the University of Virginia. We went to a women’s basketball game, enjoyed a lovely dinner, and spent time on campus, touring and learning about the school…
This was one out of many college visits this month—we did Virginia Tech and William & Mary already, and next up is James Madison University and Campbell University. It’s exhausting but fun to experience all of these college campuses again as an adult—I want to go back and do college over!
At every admissions session is the financial aid talk…what a downer. College is ridiculously expensive!
When putting together a plan for paying for college, it is interesting to see how parents and students are typically covering college costs. Student loan giant Sallie Mae publishes and annual report that dissects how families pay for college. As has been the case in past years, parent income and savings is the bulk of the spending in 2021-2022 school year:
For college savings, one of the best savings options remains the 529 college savings plan. And these became even more attractive since Secure Act 2.0 was signed into law in December 2022.
As a refresher, 529 plans are an amazing college savings vehicle. Some of the benefits are:
- Tax savings — Some 529 plans provide you with a state tax deduction up to a certain amount per account. For our Virginia residents, the Virginia 529 plan allows up to a $4,000 state tax deduction per account (even if the beneficiary (aka the child) has more than one 529) no matter if you invest in the Invest plan or the Prepaid plan. The contribution has to be made before the end of the calendar year to qualify for that year’s state tax deduction.
- Funds grow tax-deferred AND are withdrawn tax free if used for qualified education expenses. (That’s a triple tax benefit if your state plan offers deductions on contributions.) If used for K-12 expenses, this is limited to $10,000. Anything that is not a qualified education expense will incur federal and possibly state tax on the earnings, plus an additional 10% federal tax on those earnings
- For those trying to reduce potential taxable estates, there is the option to make five years of tax-free gifts in a single year (up to $80,000 per individual per account).
- Anyone can contribute to a plan—parents can open a 529 account for their child and then other friends or family members can make gifts to that plan.
The definition of “Qualified Expenses” is very broad. It includes tuition expenses for K-12 grades (public, private, or religious schools). It also covers any college, university, vocational school in any state, public or private. It can be for undergraduate, graduate, or certificate programs. A very wide range of options!
Many times, our clients are concerned about over-funding a 529 plan as any withdrawals not used for Qualified Educational Expenses are subject to the 10% penalty and tax on the earnings. However, careful planning, and the new option added by the Secure Act 2.0 plan, make an overfunding scenario less dire. Existing options for excess 529 funds are:
- Pay up to $10,000 of student loan debt per beneficiary
- Change the beneficiary of the account to another child, family member or yourself
- Roll the unused funds into another child’s 529
- Use the scholarship exception…If your student receives a scholarship, you may take a non-qualified distribution for the amount of the scholarship and the 10% penalty is waived
The new option added by the Secure Act 2.0 is allowing 529 funds to be converted to a Roth IRA for the beneficiary. Starting in 2024, the beneficiaries of 529 plans that have been open for at least 15 years can transfer up to $35,000 of the 529 balance into a Roth IRA. The beneficiary is subject to the annual IRA maximum contribution (currently $6,500), but may make maximum annual contributions every year until they have reached the lifetime maximum of $35,000.
This last option removes all worries about over funding by essentially converting tax free college savings to tax free retirement savings!
Now, we just need Melanie to apply and be accepted at her school of choice…
