- The 2017 tax overhaul didn't just affect
federal income tax brackets.
Since the Secure Act was passed,
529 plans have changed as well.
Now parents can withdraw up to 10K per year
to pay for private primary and secondary education tuition,
that is, if your state allows it.
This is a big change to 529 plans,
and changes a lot about what counts
as a qualified 529 plan expense.
So should you take advantage of this new provision?
In today's video, we're gonna explain how it works
and when you might want to take advantage.
Hey everyone, this is Andy, with The College Investor,
investing in personal finance for millennials.
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Okay, how can I use the 529 plan
for private and elementary education?
Well, when you use the 529 plan
for post secondary or higher education expenses,
the use of the funds are relatively broad.
However, parents need to be careful when using the 529
for elementary or secondary education.
As a parent, you may only use the money
in these accounts to pay for private school tuition.
Yes, just tuition.
Expenses, such as computers, field trips,
summer camps, et cetera, are not covered by this provision.
Additionally, the law only covers distributions
of up to $10,000 per year
for elementary and secondary education.
By contrast, the Coverdell Education Savings Account
allows parents to spend money
on all qualified education expenses
such as computers, et cetera,
but it does have stringent contribution limits.
To take advantage of this new rule,
you'll simply cash out your investments,
transfer the funds to your checking account,
and use the funds to pay
for primary or secondary school tuition.
Be sure to keep track
of how you use the distributions for tax purposes
in case you get audited.
Let's discuss some rules surrounding the 529 plan.
529 plans are essentially educational IRAs
that are administered at the state level.
529 plans are considered tax advantaged accounts.
Savers can invest the 529 plan
and the gains from the investments
are free of capital gains,
so long as you use the funds for qualified expenses.
Many states offer tax deductions or credits
when parents or grandparents fund 529 accounts.
It's important to note
that you won't get a federal deduction or a credit
for funding a 529 plan.
It's also important to note
that your eligibility for deduction
may be contingent on choosing the 529 plan
administered by the state where you live.
If your state doesn't offer deduction or credit,
I recommend checking out our list
of the best places to open a 529 plan.
We'll put a link to that list in this video description.
529 plans don't have firm limits on funding
but the gift tax limit for 2022 is 16K.
That means you and your spouse could contribute 16K
to a 529 plan for each child,
without triggering any extra taxes.
You could also superfund a 529 plan
by contributing up to 75K, five years of gifts at once.
Now let's dive deeper on where to open a 529 plan.
Where you open a 529 plan makes a difference.
Each state has its own program.
And while some states let you use any 529 plan
and claim the tax deductions,
others require you to use their state's plan.
On our website, we have an interactive map of United States.
It allows you to pick your individual state
and learn more about your state plan,
or other state plans for that matter.
Again, we'll have that link in our description
for you to play around with.
The big advantages of 529 plans
are the tax deductions offered at the state level,
and the ability to withdraw money
without paying tax on the growth.
However, to get the most value from a 529 plan,
it takes time.
Trying to use 529 plan money early in a child's life,
could limit the benefits of tax free growth.
It's hard to get a lot of compound interest
in just a few years.
So should you use the 529 for primary or secondary expenses?
Well, here are three times where we think it makes sense.
Number one, overfunded for higher education.
Funding a 529 plan is a bit of risk.
You'll never be 100% sure
that your child will actually use the funds for college.
They may not be cut out for college
or you may raise a star athlete who gets scholarship offers
or if your child reaches high school,
and doesn't look like they're gonna need
every dollar in your 529 plan,
it would make sense to use the funds
for private secondary education,
if you're already incurring that expense that is.
Just remember, you can also transfer funds
to another 529 beneficiary such as a sibling,
without incurring any penalties.
Number two, capture tax credits or deductions.
Parents who already plan to pay for private schools
should consider contributing to the 529 plan,
just to capture the benefits.
If your child's private school costs $6,000 per year,
run the money through the 529 plan
before you pay the tuition.
That way you'll capture a deduction or even a credit,
based on your contributions
for an expense you are paying anyway.
This only works if you're located in a state
that offers a tax deduction for 529 plan contributions.
The last reason to consider using a 529 plan
to pay for primary or secondary tuition,
is to take gains off the table.
If your 529 account has experienced some nice gains,
you might wanna use those gains earlier rather than later,
and save any remaining funds in cash.
Distributions from the 529 plan are tax free
when used for qualified expenses.
So if you're incurring private schooling expenses,
you may as well use the funds from the 529 account
if you've seen nice gains.
Now we love to take advantage of the tax code,
but your life should dictate how you use the tax code
and not the other way around.
If private primary and secondary education
isn't part of your overall financial and family plan,
then don't worry about using the proceeds earlier.
It is fine to use the 529 as a college savings plan.
What about homeschooling?
Well, late in 2017,
it looked like the right to use 529 proceeds
for private elementary and secondary education
would be extended universally
to homeschool families as well.
However, that portion of the law was overturned,
so homeschoolers cannot universally use the 529
for homeschool expenses.
The law solely only applies
to primary and secondary tuition expenses.
It's difficult to see how homeschool families
may practically be able to use the funds.
That said, few states universally consider homeschoolers
a form of private schooling.
That's Alaska, California, Illinois, Indiana,
Kansas, Kentucky, Nebraska, and Texas.
These are states where home schools
are universally considered private schools.
That means parents in those states can likely use 529 plans
for select elementary or secondary school expenses
that meet tuition criteria.
By contrast, parents in those states can easily use
the Coverdell Educational Savings Account
for qualified education expenses,
which include things like curriculum,
textbook supplies and computers.
If you are a homeschool parent in any state
including the states that we talked about,
we recommend contacting a lawyer
or the Home School Legal Defense Association,
before using any distributions
for qualified education savings accounts.
A quick important tax note for our viewers today.
This law is still very new and it's a big change.
As a result, many states have yet to change
their own tax laws to match the federal law.
What that means today, is that using 529 plan money
for private school tuition,
may be a tax free event at the federal level,
but it could be a taxable event in your state
until the state law is changed.
Be very cautious before making any significant changes
or plans around this new law,
until you understand all the implications.
As of 2021, the following states
don't follow federal tax law in regards to 529 plan usage
for elementary education, that's, California, Colorado,
Hawaii, Illinois, Michigan, Minnesota, Montana,
Nebraska, New Mexico, New York, Oregon, and Vermont.
That means if you live in one of those states,
you may owe taxes in your state
if you take money out of your 529 plan
for elementary education.
Perhaps that's why it's called government speed.
As I mentioned earlier, be sure to check out
our interactive state map to find
your 529 plan in your state,
and also leave us a comment below.
Are you thinking of using your 529 plan
to cover private elementary or high school tuition?
How are you weighing this decision as a family?
Please let us know in the comments below.
Thanks for hanging out today.
This is Andy from The College Investor.
We'll see you in the next video.