Is building up college savings for your kids in a standard brokerage account making you feel like you’re running a marathon with ankle weights?
It’s a feeling I’ve heard expressed by many parents. And to add insult to injury… every time your investments pay out a dividend or realize a capital gain, the IRS takes a cut that can drain your compounding momentum every year.
But a tax-advantaged alternative, a 529 plan, allows 100 percent of your investment growth to stay in your account, working for your child’s future.
Because you pay zero federal or state capital gains taxes on dividends or interest earned year over year, your savings can grow much faster.
While contributions are funded with post-tax dollars rather than being federally tax-deductible, the real advantage is back-loaded through tax-deferred compounding and tax-free withdrawals.
The disadvantage is that colleges will count the 529 savings in calculating financial aid. But if you are in NYS, you can get a tax deduction for up to $10K a year if you fill jointly.
6ou don’t even have to wait for college to capitalize on these benefits. You can make tax-free withdrawals for alternative paths like:
- Up to 20K per student for K-12 tuition, per calendar year for private or religious primary and secondary education.
- Up to a 10K lifetime limit to pay down qualified student loans for the beneficiary (plus an additional 10K for each sibling).
- Fees, books, and specialized tools for trade programs registered with the U.S. Department of Labor.
And from a wealth-planning perspective, contributions are treated as completed gifts.
You can leverage the 19K annual exclusion (38K for married couples) or utilize a five-year superfunding strategy to front-load up to 95K per donor completely free of gift tax.
And even if your child’s college plans change entirely, the SECURE 2.0 Act lets you roll over up to 35K of lifetime leftover funds penalty-free into a Roth IRA for the beneficiary.
Keep in mind, though, 529 plans are tightly regulated. Non-qualified withdrawals face ordinary income tax and a 10 percent penalty calculated on a strict pro-rata basis. So, you can’t just withdraw your principal to avoid tax consequences.
If you have questions about funding for college,. Schedule a time to chat with one of us, and we’ll make sure you keep the tax benefits you’ve spent years building.
