How to build a 529 account

What every grandparent needs to know about the best way to save for college.

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When my grandchildren, Madison and J.T., were born, my husband and I set up 529 savings plans to help fund their college educations. It’s something that I recommend for all of my clients who are parents or grandparents. After all, given the rising cost of a college education, kids (and their parents) need all the help they can get. And 529 plans, in my opinion, are hands-down the best way to start saving for those sky-high tuition bills. Here’s a short primer on some of the questions clients ask me most often about the plans:

Q: What exactly is a 529 savings plan?

A: Simply put, a 529 savings plan (they’re named for Section 529 of the Internal Revenue Code, by the way) is a tax-advantaged way to save for qualified higher-education expenses. Almost every state offers a 529 plan — some even offer more than one — so you have plenty of options from which to choose.

Q: What makes them so special anyway?

A: A 529 plan allows your money to compound tax-free, and your earnings can be withdrawn tax-free as long as they are used for educational purposes. Another plus: The funds remain under your control, not the beneficiary’s, so there’s no chance that Junior will blow the money.

Q: Who can contribute — and how much?

A: Anyone can contribute to a 529 plan. A married couple can contribute up to $30,000 a year (or $15,000 per individual). Maximum values vary by state, and can be found here. There is also a provision called the 5-year election that allows a lump-sum contribution of $150,000 per married couple or $75,000 per individual. The idea is that your contribution is at least $15,000 and spread over a five-year period.

Q: Do I have to invest in my own state’s plan?

A: No. You can invest in any plan you wish. But keep in mind that there can be additional tax benefits if you invest in your own state’s plan. For example, many states currently let you write off some of your contributions.

Q: Will my grandchild have to go to school in the same state as the 529 plan I choose?

A: That’s a common myth, but no. Your grandchild will be able to use the funds for qualified higher-education expenses in any state.

Q: What if my grandchild doesn’t go to college?

A: First, understand that “college” and “higher education” are not synonymous. We often refer to college when talking about 529 plans, but they can be used for any post-high-school education. So if your grandchild wants to be an auto mechanic or a massage therapist, a 529 plan will cover the necessary trade-school courses.

If your grandchild forgoes higher education altogether, and chooses to use the money to, say, buy a house, then the earnings will be subject to regular income taxes as well as a 10 percent penalty. You should also know that you can always change the beneficiary of a 529 plan, so if you don’t want to fund Junior’s house purchase, you can divert the money to his Harvard-bound sister.

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