One way to put money aside for future education is to open a 529 plan, or qualified tuition program. This tax-free investment growth plan can be used for any K-12 tuition or qualifying higher education expenses. Plans have an account owner and a beneficiary. The account owner is the person putting money into the account. The beneficiary is the one taking it out.
If the student plans to use financial aid, the account owner’s relationship to the beneficiary affects the effectiveness of the plan.
Student-owned 529 plan
A student can be both the account owner and beneficiary of their 529 plan. You must be 18+ to open an account. As this is an investment account, opening a plan at 18 often does not give the account a lot of time to mature before being used for college expenses. That said, it is not a bad option if it is something you can afford and can often be opened with as little as $25.
If you are a dependent student, these funds must be reported in your FAFSAⓇ application under parental assets. This is a very important distinction and a commonly made mistake. If the plan is reported as a student asset, the student will receive significantly less financial aid. Student assets are weighed more heavily in financial aid considerations than parental assets.
Parent-owned plans can also get complicated if parents separate. See more below. This can be avoided if the plan is opened directly by the student.
If you are an independent student, you will have to report your 529 plan as your own asset. As mentioned above, this will be weighed more heavily in financial aid calculations.
Parent-owned 529 plan
Parent-owned plans are reported the same on the FAFSA as dependent student-owned 529 plans. So whether the account owner is the parent or the student, if you are applying for financial aid, the deductions on your financial aid will remain the same. Only a maximum of 5.64% of parental assets value is counted toward the family’s EFC.
The greatest advantage of a parent-owned 529 plan is that it can be opened early on in a future student’s life (or even before they are born). There is no minimum age for beneficiaries. The pre-tax dollars will grow over a longer period of time.
A 529 plan can only exist under one account owner. If parents are divorced, FAFSA only requests information about the assets of the custodial parent. For more information on the definition of custodial parent and how to handle a 529 plan owned by a noncustodial parent, read our article on noncustodial parents and financial aid.
Grandparents and 529 plans owned by others
If the account owner of your 529 plan is your grandparent, a distant relative or literally anyone else, you do not report this information on the FAFSA application. Since this money doesn’t count toward parental assets, chances of receiving more federal financial aid increases.
This is good news until the beneficiary actually withdraws any money from the account. Any withdrawals must be reported as untaxed income for the following academic year. This new student asset can lead to a drastic decrease of aid. According to savingforcollege.com, it could even reduce aid eligibility as much as 50%.
Depending on the amount of money in the account, one way to mitigate this issue is to wait until the last year of school to use the money for education expenses. In doing this, there will be no aid to request or negatively effect for the following year since school will be over.
Transferring your account ownership to a parent or the beneficiary will help avoid negatively impacting your student’s aid when they withdraw funds. Before you do, check with your plan administrator and review your state rules and requirements to ensure you won’t be hit with a gift-tax or unexpected fees. Some states, New York for example, does not allow the transfer of 529 plan ownership at all.
Getting started and moving forward
If you are a grandparent or relative making a very thoughtful investment in your loved one’s future, have a conversation with the student’s parents about smart ways to invest. If you are looking to open your first 529 plan, check out some other resource for more information. Do more research here:
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