According to U.S News and World Report, in a recent survey, more than 50% of grandparents are saving or plan to start saving for grandchildren’s college expenses. Most of them chose to save into a 529 college savings plan that provides tax deferred growth and tax free withdrawal for education purposes. 529 college savings plans are free from federal income taxes until the money is withdrawn for qualified educational spending.
Saving for your grandchildren’s college can have another nice tax advantage. 34 states and the District of Columbia offer residents a state income tax deduction for contributing to the state’s specific 529 plan. If your state, such as Washington, does not have a state income tax or offer a deduction, then you can use any state’s plan to take advantage of the other 529 benefits offered.
One of the key questions grandparents ask is “Will this hurt my grandchild’s chances for financial aid?” This is an excellent question. A 529 owned by a grandparent is not reported on the Free Application for Federal Student Aid Form (FAFSA). This form helps determine a college student’s eligibility for federal financial aid. For a parent owned 529 account, as much as 5.6 % of the value is deemed as part of the “expected family contribution.”
It is important to understand though, that when the funds are distributed for the grandchild’s education expenses, they are now considered student owned and could reduce the following year’s financial aid. In other words, it will have less impact on a student’s financial aid application if they wait until later in the college years to use it.
Many families are not eligible for financial aid to begin with, based on their income. In that case, there is really no real downside to contributing and lots of upside for ensuring your grandchildren are able to go to college.
Another key question to ask is, “What if my grandchild doesn’t go to college?” Any money taken out of a 529 plan for things other than college is penalized, but you can transfer the 529 account into another family member’s name without penalty. This is often what parents and grandparents choose to do to provide for other children/grandchildren who do wish to further their education.
First Pacific Financial helps clients navigate which 529 plan makes sense and helps choose the appropriate investment allocation based on the age of the child.