Lately, we’ve received a lot of questions about ways to pay for college in our Ask YoBucko section. Today, we’re answering the question, “what is a 529 plan?”

What is a 529 plan?

A 529 Plan is an education saving plan that has tax advantages and other incentives to make it easier for people to save for college or graduate school. When you set up a 529 plan, you designate a “beneficiary” who will use the funds to pay for school. It can be a child, a cousin, a friend, or even yourself.

What are the advantages of opening a 529 plan?

One of the main advantages of investing in a 529 plan are the tax advantages of the plans. Earnings in 529 plans are not taxed by the federal government and are not tax by states usually as long as the money in the plan is used to pay for “qualified education expenses” such as tuition, books, fees, and room and board. Recently, qualified education expenses were extended to include things like computers, internet and other technology. Contribution to a 529 plan, however, are not tax deductible in every state. Check with your state’s 529 plan administrator for more details on contributing to your state’s 529 plan.

How long have 529 plans been around?

Congress created 529 plans in 1996 and named them after section 529 of the IRS code. Their legal name is a “qualified tuition program.”

Who can set up a 529 plan?

Anyone. There aren’t any income restrictions on who can set up a 529 plan and there isn’t a limit to the number of 529 plans you can set up.

How much can I contribute to a 529 plan?

You can contribute as much money as is “necessary to provide for the qualified education expenses of the beneficiary.” That’s a little vague, but it is what the IRS says. Today, college tuition and other expenses are very high, so it is tough to contribute too much. But remember, there may be gift tax consequences if your contributions to any one beneficiary exceed $13,000 per year. Why? That’s the rule. The IRS says that any “gifts” you make to an individual in any given tax year cannot exceed $13,000 per person (or $26,000 for a couple) in a given year. For more information on Gift Tax limitations, see Form 709, United States Gift (and Generation-Skipping Transfer) Tax Return.

What types of 529 plans are available?

There are two types of 529 plans available: savings plans and prepaid tuition plans. Each state has its own plan with its own unique features (and benefits.) But generally speaking, states are permitted to offer each type of plan, but only “qualified institutions” can offer prepaid tuition type 529 plans.

Am I restricted to my own state’s 529 plan?

No, you don’t have to participate in your state’s 529 plan, but there may be incentives offered by your state’s plan to win your business. We recommend shopping around though. You’ll want to make sure your state’s plan doesn’t have too high a fee structure, or doesn’t offer you flexibility or enough investment options. As always, shop around.

Who manages the money in a 529 plan?

If you open a 529 plan, you are in control of the funds until they are withdrawn. Each state has designated asset management companies who offer you options for investing your money, but the decision on where to invest the funds is up to you. Most states offer life-cycle funds that invest and manage the funds for you, but you’ll want to talk to your state plan’s administrator before you decide to pull the trigger.

What is a beneficiary? Can I change the beneficiary on my 529 plan?

The beneficiary is typically the student or potential student who you expect to use the funds for one day. They aren’t limited on where they can go to school, but you do want to make sure your plan offers flexibility before you open an account. Once you set up the account, you can change the beneficiary. There aren’t any tax consequences for doing this either. So if you were saving for your own education and you realize you don’t need the money when the time comes, you can transfer it to your kids, or a grandchild later.

Should I set up a 529 plan?

That’s up to you. They aren’t for everyone and are only one of the many ways to pay for your or your family’s educational expenses. When you set up a 529, you are opening an investment account. They invest in cash, stocks and bonds. If you need the money sooner rather than later, it may be more of a hassle than a benefit. But if you are saving for your child’s education or the education of someone who you think will attend college many years from now, 529 plans do offer a tax-advantage way to save money and invest in the education of someone you know (or love). Personally, I opened a 529 plan when I decided to go back to grad school, and have enjoyed the tax-free growth in my portfolio since I opened it. I did, however, have a few gut checks along the way when the markets started to tumble. Either way, it’s good to know your options and I wish you the best in reaching your educational goals.