Benjamin Franklin once said “If a man empties his purse into his head, no man can take it away from him. An investment in knowledge always pays the best interest.” Education is a value many families hope to pass down through generations. However, with the rising cost of college it is increasingly difficult for each generation to bear the financial costs.
In my family, three generations have attended Cornell University. When my grandfather was a student, tuition was $300 per year. For my father, it was $3,000, and by the time I attended, it had reached $30,000. The last I checked, it’s now over $60,000 annually. While we expect prices to rise over time due to inflation, college tuition has been on a rapid upward trajectory. And yet, higher education is something many of us (including my family) hold as an important value.
How can education remain attainable given these rising costs? One option is a family legacy 529 plan. Unlike a standard 529 plan created for a specific individual—many times the owner’s child or grandchild—a legacy 529 plan is designed with a longer time horizon and isn’t limited to a single beneficiary.
In general, 529 plans are tax-advantaged savings plans designed to encourage saving for future education costs. A legacy 529 account involves creating an account with the intention of it being passed down through generations, providing educational opportunities within a family.
To determine if a legacy 529 plan may be beneficial to your family, let’s explore some of the benefits as well as the drawbacks.
Benefits of Creating a Legacy 529 Account
- Tax Advantages: One of the primary benefits of a 529 plan is the tax advantages it offers. Contributions to a 529 plan are made with after-tax dollars and the earnings grow tax-free. Withdrawals used for qualified education expenses are also tax-free. This allows for substantial tax savings over time.
- Flexibility in Usage: 529 plans can be used for a wide range of educational expenses, not just college tuition. They can cover K-12 tuition*, trade school costs, and even certain apprenticeship programs. This flexibility ensures that the funds can be utilized for various educational purposes.
- Estate Planning Benefits: Contributing to a 529 plan can also offer estate planning benefits. Contributions are excluded from the contributor’s taxable estate thereby reducing possible estate transfer taxes.
- Encourages Education Across Generations:By establishing a legacy 529 account, you create a dedicated fund for educational purposes that can benefit multiple generations. This can foster a family culture that values and prioritizes education, ensuring that future family members have the resources they need to pursue their educational goals.
Drawbacks of Creating a Legacy 529 Account
- Penalties for Non-Educational Use: While 529 plans offer tax benefits for educational expenses, there are penalties for using the funds for non-qualified expenses. Withdrawals for non-educational purposes are subject to income tax and a 10% penalty on the earnings portion of the withdrawal.
- Potential for Overfunding: There is a possibility of overfunding a 529 plan, especially when planning for multiple generations. If the beneficiary does not incur as much in educational expenses as anticipated, the leftover funds could be subject to penalties if not used for qualified expenses.
- Impact on Financial Aid: The assets in a 529 plan are considered when calculating a student’s eligibility for financial aid. This means that having substantial funds in a 529 account could reduce the amount of financial aid the student is eligible to receive if the owner of the 529 plan is one of the student’s parents. Although there are opportunities to name a grandparent instead of a parent, thereby negating this issue.
Creating a legacy 529 account can be a powerful tool for fostering a culture of education within a family and ensuring that future generations have the financial resources to pursue their academic goals. The tax advantages and flexibility make it an attractive option for many families.
However, it’s important to also consider the potential downsides, such as penalties for non-educational use and the impact on financial aid. As with any financial decision, it’s crucial to weigh these pros and cons carefully and consult with a financial advisor to determine if a legacy 529 account is the right choice for your family’s educational and financial goals.
*While K-12 tuition is an allowed expense on the federal level, not all states allow 529 funds to be utilized for K-12 tuition. For instance, Oregon residents are NOT allowed to use 529 plan funds to pay for K-12 tuition. It is important to check the rules specific to your state.
Prior to investing in a 529 Plan, investors should consider whether the investor's or designated beneficiary's home state offers any state tax or other state benefits such as financial aid, scholarship funds, and protection from creditors that are only available for investments in such state's qualified tuition program. Withdrawals used for qualified expenses are federally tax free. Tax treatment at the state level may vary. Please consult with your tax advisor before investing.