Saving for College with a 529 Plan: Frequently Asked Questions

Tax Advantages

I thought there were some gift and estate tax advantages with 529 plans, but you didn't mention that as a benefit. Am I wrong?

The gift and estate tax treatment of an investment in a 529 plan is a good news, bad news situation.

The bad news is that your contribution is treated as a gift to the named beneficiary for gift tax and generation-skipping transfer tax purposes and so you need to be aware of this exposure particularly if you are making other gifts to the beneficiary during the same year.

The good news is that your contribution qualifies for the $11,000 (in 2002 and 2003) annual gift tax exclusion and so most people can make fairly large contributions without incurring the gift tax.

The better news is that if you make a contribution of between $11,000 and $55,000 for a beneficiary, you can elect to treat the contribution as made over a five calendar-year period. This allows you to utilize as much as $55,000 in annual exclusions to shelter a larger contribution. The money (and the growth of your account) gets out of your estate faster than if you made contributions each year.

And the best news is that the asset leaves your estate but doesn't leave your control. This is a truly remarkable benefit when you compare it to the "normal" gift and estate tax laws. Anyone who is being advised to reduce their estate tax exposure through gifting, but cannot stand the thought of irrevocably giving away their assets, can now have their cake and eat it too. Of course, if you later revoke the account its value comes back into your estate. Your estate will also have to include a portion of any contribution made with the five-year averaging election if you don't live past the fourth year.

Can I invest for one beneficiary in more than one state's 529 plan?

Sure, no problem. There are a couple dozen states that have 529 plans without any state residency requirements. You can open accounts in as many of these states as you want, although in most cases there is little reason to have accounts in more than two or three states.

Can I contribute the maximum amount in more than one state if I want to?

The IRS currently does not require that states count your investment in other state 529 plans when applying their own contribution limits. And there are no "contribution police" out there looking for people who are intent on using multiple states to stuff hundreds of thousands of dollars into 529 plans as a kind of tax shelter. But you are looking for trouble if you contribute more on an aggregate basis than you can reasonably argue might be needed for your beneficiary's future higher education costs. Of course, between a pricey private college, medical school, and then business school you might be able to support a pretty hefty sum. A state will not want to see its program misused as a tax shelter (its tax status as a 529 plan could be threatened) and if a state determines that you have made contributions without the intent to use the account for college it will terminate your account and perhaps assess an extra penalty.

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The information on this Web site is designed for educational purposes only. It is not intended to be a substitute for informed medical advice or care. You should not use this information to diagnose or treat any health problems or illnesses without consulting your pediatrician or family doctor. Please consult a doctor with any questions or concerns you might have regarding your or your child's condition.

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