A college savings account can be started at any time for prospective college students. Sometimes parents start a college savings plan as soon as a baby is born. Sometimes called a “529 plan,” a college savings account is a strategy for setting aside money on a monthly basis in order to have money for higher education.
How a 529 Works
The number 529 refers to the section of the IRS code that administers the savings plan. Withdrawals from the plan are tax-free when applied towards college tuition. You can start an account at any time and bequeath it to anyone.
States can also get in on the plan, and your savings withdrawals will be safe from state income taxes as well. Some states even have a matching grant program that will add money to your college education.
A college savings account has two facets. One is a prepaid tuition plan, which is available in only 13 states as of now. Prepaid tuition means you can lock in today’s tuition rate for when your youngster goes to college. If you have a newborn, this may be a very good deal.
The other, and more popular choice, is the savings plan. The savings account varies its investments based upon several factors, such as the age of the recipient and the market performance of the investment. The younger you start someone as the beneficiary of a savings plan, the riskier the investments will be, and they will become more conservative as the person gets closer to college age.
A college savings account has several advantages, the most prominent of which is the tax incentive. If you use the money towards college tuition, then you don’t owe any income tax on the interest and earnings from the savings account. Generally, any interest earned on a regular savings account is required to have income taxes paid upon it.
Many savings accounts are flexible enough that you can add whatever amounts you can afford at any time into the account. Some accounts have minimums of $15 a month to contribute. Even fifty to a hundred dollars a month over the life of the account can add up quickly, depending upon the earnings and how long the money is there.
The money can be used for any qualified college expense including room, board, books and tuition. If you ever file bankruptcy, these assets are protected from liquidation.
Once you put the money into the account, you can only use it for college if you don’t want to pay the income taxes. You would have to pay state and federal income taxes on the interest in addition to a 10 percent penalty if you don’t use the money for college expenses.
If your beneficiary gets a scholarship and doesn’t use the money, you can change beneficiaries or withdraw the money without paying the 10 percent penalty. Changing the beneficiary may incur taxes or a penalty.
The non-profit group College Savings Plans Network can provide you with more information about college savings accounts.