Thinking of investing in a college savings plan? There are lots of pros to 529 plans, including potential tax savings benefits.
Your financial goals can change throughout your life. For example, if you add to your family, you may want to save for education, too. One easily accessible, simple way to do that is to contribute to a 529 college savings plan—which has potential earnings and tax benefits.
Here’s what you need to know.
Types of 529 plans
There are two types of 529 college savings plans, and the benefits and features are very different.
| 529 type | Used for |
|---|---|
| 529 college savings plans | Qualified education expenses such as tuition, room and board, mandatory fees, textbooks, and even computers. You designate how and where to spend the money. This is the most common and most flexible of the plans. |
| 529 pre-paid tuition plans | Prepaid tuition and fees (in lump sums or installments) at today’s rates at eligible public and private colleges and universities. While you lock in prices and can cover up to five years of tuition, you may or may not be able to transfer the funds elsewhere or to a different beneficiary. “That’s the downside; a lot of plans are very state specific, so it’s important to read the fine print,” says Heather Winston, product director at Principal®. “Pre-paid plans are also more restrictive, meaning you can’t use funds for books or supplies, for instance.” |
529 college savings plan benefits and features
| Are 529 plan contributions tax deductible? | Contributions are made with after-tax dollars. More than 30 states offer a full or partial tax deduction or credit for 529 plan contributions. Visit SavingforCollege.com to see if your state qualifies. |
|---|---|
| Are there other tax benefits to 529 plans? | Earnings grow on a tax-deferred basis, and you don’t pay federal taxes on 529 plan withdrawals when the money is used for qualified educational expenses. |
| What are 529 plan qualified education expenses? | Tuition, fees, books, computers and related equipment, supplies, special needs, room and board for half-time students, and up to $10,000 in tuition expenses at private, public, and religious K-12 schools (state dependent). |
| Who controls the 529 savings plan account? | The account owner (usually the parent or guardian) until the funds are withdrawn. Other donors, such as grandparents or any adult, can also set up 529s. |
| Can I change 529 beneficiaries? | Yes, to another child or grandchild—even for yourself if you’re going back to school. |
| Can 529 plans be used for education loans? | Depending on your state, you can withdraw up to $10,000 (lifetime cap per borrower) from 529 plans to pay principal and interest on a qualified student loan for a 529 beneficiary. Visit your state’s 529 site to find out how your state handles withdrawals for student loan repayment. |
| Do 529 plans affect financial aid? | Maybe; it depends who owns the account. For example, if a parent is the account owner, a student’s financial aid award could be reduced by as much as 5.64% |
| What happens with leftover funds in a 529 plan? | Starting in 2024, a provision of the federal SECURE 2.0 Act, allows excess funds to be rolled over into a Roth IRA tax-free. The Roth IRA must belong to the beneficiary of the 529, there’s a lifetime transfer limit of $35,000, and the 529 must have been open for at least 15 years. Other factors also apply; consult a financial professional with relevant expertise. |
How 529 plan rules may vary by state
| Are there contribution limits? | Yes. Limits range from $235,000-$550,000 and may be considered gifts for federal tax purposes and count against the lifetime gifting exclusion if contributions are above the gift threshold. |
|---|---|
| Are there state tax advantages or other benefits? | Maybe. It may depend on whether you’re a resident of the state that sponsors the 529 plan. |
| What are the investment options? | The options for 529 plans vary widely and may include age-based investments. |
| Are there fees and expenses? | Yes, but this varies greatly—even among plans offered within the same state. |
4 ways to make the most of your college savings plan
- Check out your state’s 529 savings plans first. Tax breaks or waived fees may be lower for in-state residents.
- Start early and add often. Consider monthly contributions, even if they vary from year to year.
- Regularly review your progress. You may want to adjust each year based on how close you are to your savings goals.
- Talk to a financial professional about all the college savings choices available and the implications for your financial plan. “For example, a 529 savings plan may help minimize potential taxes because earnings aren’t treated as ordinary income and there aren’t capital gains taxes assessed,” Winston says. “There are also ways estate taxes can be minimized, too, because any money contributed to the 529 is considered outside of the owner’s taxable estate.”
What’s next?
You can save for both college and retirement, and it’s good to check on your progress on both regularly. Not sure how much you’re saving? Log in to principal.com to check your savings rate. Don’t have an employer-sponsored retirement account or want to save even more? We can help you set up your retirement savings with an individual retirement account (IRA).
