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529 Plans: Friend or Foe?

Every time I speak to parents, I’m asked about 529 plans (college savings plans).

The question:  are they “good” or “bad?”

Do they hurt or help?

Here’s the scoop:

Under the Federal rules, 529 accounts are parent assets, meaning they are penalized at a lower rate (they used to be considered a child asset until Congress changed things in 2006) instead of 20% for a child asset.

Any 529 owned by a parent, naming the child as the beneficiary, is a parent asset on the FAFSA.

What about 529’s owned by a grandparent, naming the child as a beneficiary?

NOT an asset reported on the FAFSA!  But before you call up Grandma, here are two caveats:

1.  When Grandma withdraws 529 funds to pay for college, FAFSA treats that amount as INCOME to the child.  In other words, levies a stiff 50% penalty on those funds.

2.  So far, this discussion pertains to FAFSA only.  In my experience (and that of my colleagues in other parts of the country), many private colleges and universities that use the CSS Profile will treat the 529 as a child asset and reduce your eligibility sharply (by 20-25%).

What do you do if you have a 529?

It may pay to sell it early, but you will have to pay a penalty if not used for “Qualified Higher Education Expenses,” meaning tuition, books, room and board if attending at least half-time.

NOTE:  not everyone qualifies for need-based financial aid, which is pre-supposed in this discussion.  In other words, many of my clients earn 500K and more.

For high earners, their best bet is to use the 529 for the tax benefits (a deduction and withdrawals taxed at a lower rate than parent gains) and to apply to schools likely to give merit funding – scholarships that have nothing to do with how much income or assets you show on paper.  (Since the 1990’s,. colleges have awarded more merit funding than need-based -there’s a fun fact!).

Watch my “retired” online workshop on financial aid for more info (I no longer conduct this presentation):

COLLEGE FINANCE WORKSHOP

Your correspondent,

– Andy