Year after year, the cost of higher education continues to soar — and there's no sign of that trend slowing down any time soon. In fact, a recent study by the National Center for Education Statistics found that the cost of higher education at public, private non-profit, and private for-profit four-year institutions rose 13%, 18%, and 8%, respectively, between 2010 and 2020.
And for any parent or guardian who has a loved one who will eventually be attending college, these steady increases may cause some trepidation. Luckily, investing in a 529 college savings plan may bring some financial peace of mind to those planning for future educational costs.
Not sure what a 529 college savings plan is or how it works? Here are five things you need to know about these tax-advantaged plans:
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1. What is a 529 College Savings Plan?
According to the U.S. Securities and Exchange Commission, a 529 plan helps families save for education costs with tax-advantaged savings. In other words, with a 529 college savings plan, you have the ability to add money to a tax-deferred account and withdraw the money tax-free — as long as it's applied toward qualifying education costs.
2. What Types of 529 College Saving Plans are Available?
There are two types of 529 plans: prepaid tuition plans and education savings plans. These plans are either sponsored by the state you live in or by participating private colleges and universities.
Prepaid tuition plans allow you to buy credits at participating colleges and universities for qualifying future tuition and mandatory fees. Of course, there are some important things to note:
- Residency restrictions may apply.
- Room and board costs are typically not considered qualifying expenses.
- Funds cannot be used for any elementary or secondary school expenses.
- These plans are not guaranteed by the federal government.
- You may lose some (or all) of your money if the plan's sponsor has a financial pitfall.
Meantime, education savings plans allow you to open an investment account to cover qualifying expenses at any college or university, including tuition at public, private, and religious elementary or secondary schools, as well as some non-U.S. colleges and universities. Some important things to note:
- Tuition, mandatory fees, and room and board expenses qualify under this plan.
- Education savings plans may include mutual funds, exchange-traded fund (ETF) portfolios, and principal-protected bank products.
3. What Expenses Does a 529 Plan Cover?
There are important differences between what a prepaid tuition plan and what an education savings plan covers.
Prepaid Tuition Plan
- College/university tuition at a participating in-state establishment
- Mandatory costs, including books, supplies, internet costs, and computers and software that are required by the school
Education Savings Plan:
- Tuition at participating colleges and universities; public, private, and religious elementary or secondary schools; as well as some non-U.S. colleges and universities
- Mandatory costs, including books, supplies, internet costs, computers, and software
- Qualifying off-campus housing
- Qualifying food and meal plans
- Special needs equipment
- Up to $10,000 (lifetime) of student loans
4. What are the Tax Benefits of a 529 College Savings Plan?
Some of the tax benefits of investing in a 529 college savings plan include:
- Tax-deferred growth: You won't have to pay federal or state income taxes on the funds in your account as they grow.
- Tax-free withdrawals: You won't have to pay income tax on any of the money you withdraw — as long as it's applied toward qualifying expenses).
5. Why Should I Consult an Expert About 529 College Savings Plans?
As with anything that involves investing, it's important to rely on the help and advice of an industry expert. This expert will help you not only better understand the different options but also help you decide which investment option makes the most sense for you and your life circumstances. They can also answer your tax questions and help ensure there are no unexpected surprises when you're ready to apply the funds toward qualified education expenses.
It's Never Too Late to Get Started
There are no sign college education expenses will stop rising anytime soon, which is why it's important to start saving for the future today. No matter if education expenses are in your immediate future or many years away, it's never too late to start investing in a 529 college savings plan.
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