Taking from college savings
Tax-advantaged 529 college savings plan assets are expected to balloon to $237 billion by the end of 2015, according to Financial Research Corporation.
If you or someone in your family is planning to start college soon, it's likely you are poised to withdraw money from a 529. But before you do, the Minnesota Society of Certified Public Accountants has some advice.
Do understand the rules
Tax-advantaged college plans, named after Section 529 of the Internal Revenue Code, allow you to set aside pre-tax income for qualified higher education expenses.
You won't pay tax on the interest these accounts earn, either. Qualified expenses generally include tuition, fees and textbooks, supplies and equipment, as well as limited room and board. Consult a CPA for a complete list.
Don't take too much ...
To be completely tax free, your withdrawals must be used to pay qualified expenses during the current tax year-or calender year-not the current school year.
So, if you will need $20,000 to pay for your child's tuition from September through May of this year, start by taking only what you need to cover your costs through December, when the tax year ends.
When January rolls around, you can withdraw the remainder of the money you'll need for the rest of the academic year.
Options are available for those who have taken too much in any calendar year, so consult your CPA for details if you're in this situation.
... or too little
What happens if there is money left in your 529 plan after your child graduates? Unfortunately, you may end up paying taxes on your investment earnings if they aren't used for qualified higher education expenses.
All is not lost, however, since the money can be used to fund your child's graduate education. You can also change the account beneficiary to another family member if a different relative has qualified higher education expenses to pay.
Do consider financial aid issues
Some families are concerned that having savings in a 529 account will prevent them from receiving an attractive financial aid package.
To avoid this problem, grandparents can create the 529 plans for their grandchildren. What's best for you will depend on many factors. Your CPA can help you put together a college savings plan customized to your specific needs.
Don't overlook the impact of financial aid or education credits
Qualified higher education expenses must be reduced by any financial aid the student receives.
For example, if the student has qualified tuition and expenses of $20,000 and receives $7,000 in financial aid, he or she can then only withdraw $13,000 tax-free from the 529 account to cover those expenses.
Further, any qualified expenses taken into account to determine education tax credits (i.e., American Opportunity and Lifetime Learning Credits) also reduce the amount of money that can be withdrawn tax free from the 529 account.
For example, if $4,000 is used to determine an education tax credit, the available 529 tax-free funds go down another $4,000.
So, rather than being able withdraw $20,000 tax free from his or her 529 account, the student can withdraw only $9,000 (that's $20,000 qualified expenses minus $7,000 in financial aid, minus $4,000 used to determine the education tax credit).
Do consult your Certified Public Accountant (CPA)
Pursuing higher education is an important long-range personal investment. It may also rank among the most complicated financial investments you're ever likely to make.
Expert CPA advice will help you make smart effective decisions so you can get the most out of the dollars you invest in your education. Whether it's setting up a 529 college savings plan or negotiating financial aid, consult your CPA. Don't have a CPA? Visit www.mncpa.org/referral to locate one in your area.