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Do you save for your children’s education?

Or do you plan to start?

If you think it’s important to help your child with college expenses, you are in luck, because you have some options.

One of the most common ways to save for education is through a 529 plan.

A 529 is like an IRA for education.

Let’s see how a 529 can help you…

The Breakdown

A 529 is an education savings plan.

The name is taken from Section 529 of the Internal Revenue Code.

Note: There are technically two types of 529 plans. The one we will be discussing here is the account that you use to save for future education expenses. There is also an option for pre-paying tuition to a specific school or institution. This second type of 529 plan is much more restrictive and less common.

Like an IRA, a 529 is not an investment in itself, it’s a tax shelter for an investment. The difference is that an IRA is tax-shelter when used for retirement, but a 529 plan is a tax-shelter when used for your children’s education expenses.

You are generally given multiple investment choices, including mutual funds and/or index funds.

There are aggressive investing options for when your children are young. Then there are much more conservative options for when your children begin to approach the college age.

State Plans

529 plans are State plans, but that doesn’t mean you have to choose a plan in your state…

You can choose a 529 from any state that offers a 529 plan.

Again, there are no laws or requirements to be a resident of the state in which you open a 529 plan.

You can live in Arkansas, open a plan in Oklahoma and go to school in California.

Look at this About.com article for more on specific state benefits.

Benefits of a 529

There are multiple benefits to opening a 529 fund for your children. Anyone can open one since there are no income restrictions.

If the money is used for education, you will pay no federal taxes on earnings. So your money grows tax tax-free, when used for school.

Unlike Education Savings Accounts (ESAs), your child doesn’t have control over the money once they reach a certain age. You will always remain in control of the money.

Another great thing is that most states don’t have an age limit for using the money.

Let’s recap…a 529 plan is a fund that allows you to grow tax-free earnings as long as you use the money for school.

What is Considered Education Expenses

529 plans are fairly lenient when it comes to what is considered an education expense.

Here are a few of the things that you can use a 529 plan for:

  • Tuition
  • Room and board
  • Books
  • Computers
  • Study materials
  • Most school supplies
  • Many other fees

Pretty much anything that you would use to study or do school work.

Questions and What Ifs…

What if my children get scholarships or grants?

If your child doesn’t end up needing the money due to scholarships or grants, you can use the 529 plan to buy other education related expenses or you can roll the money over into a 529 for another child.

What if my child doesn’t decide to go to college?

If your child doesn’t go to college at all, you can roll the money over into a 529 plan for another child or you can pull your money out and not use it for education.

What happens if I don’t use the money for education?

You pay a 10% penalty, as well as taxes on any earnings you receive…similar to an IRA. However, you don’t pay taxes on the money you contributed since it was pre-taxed money (taxes were taken out of the money when you earned it).

Where can I open a 529 plan?

TD Ameritrade is a great place to open a 529. Learn about the specifics of their 529 here. Most other investment companies offer 529 plans as well.

How much can I contribute to a 529 each year?

The maximum contribution limits change depending on the state, but it’s usually at least $100,000…sometimes as much as $200,000.

Photo Credit: Prabhu B Doss

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