Q. I have questions about 529 plans. Can one opened in New Jersey be used to pay down college debt? Can it be used for the spouse of the named beneficiary? And it be used for a sibling of the named beneficiary? — Parent
A. These are great questions.
529 plans can be used for lots of education expenses for a specific group of people.
First, understand while each state can offer one or several 529 plans, the IRS oversees many of the rules on distributions, taxation and beneficiaries, said Claudia Mott, a certified financial planner with Epona Financial Solutions in Basking Ridge.
Individual states do determine whether contributions are tax deductible, she said.
Mott said initially, these accounts were created to encourage saving for college, but in 2017 the distribution rules were amended to cover secondary public, private and religious schools for beneficiaries in kindergarten through 12th grade. However, there is an annual limit of $10,000 that can be used for this educational purpose, she said.
A 529 account is set up with one beneficiary who is expected to use the funds for educational expenses, she said.
The beneficiary is typically a child, but according to the IRS can also include a spouse, sibling, in-law (brother, sister, mother, father) or other relative (aunt, uncle, niece, nephew, first cousin and the spouses of all of the former), she said.
“To avoid paying tax on earnings and a 10 percent penalty, withdrawals must be made for qualified education expenses at an accredited college, university, vocational school or other post-secondary institution,” she said. “Elementary and secondary schools must also meet eligibility criteria.”
The definition of qualified education expenses for college students is very specific and is outlined in IRS Publication 970. They include:· Tuition & fees.· Books, supplies and equipment.· Expenses for special needs services.· Room and board for students who are enrolled at least half-time at a post-secondary school. If a student is living in an apartment or house, the cost of rent that is reimbursed can not exceed the value of the school’s on campus housing.· Purchase of computer or peripheral equipment, software and internet access to be used while enrolled at a post-secondary school.
So, to your question, the repayment of student loan debt does not qualify as an expense that could be covered without penalty or tax on earnings, Mott said.
On your question about other possible beneficiaries, you have options.
While expenses must be incurred by the named beneficiary in other to qualify for a non-taxable, penalty-free use of 529 funds, the beneficiary on an account can be changed should the savings be needed by another family member or other qualified recipient.
She said it’s important to check with the 529 plan provider for the specific rules related to beneficiary changes because in many cases, only one beneficiary change is allowed each year.
“In the case of a beneficiary’s spouse or sibling, the best course of action would likely be to change the beneficiary in order to cover that individuals qualified education expenses,” she said. “The funds can be used to cover a non-beneficiary’s expenses if necessary, however, the earnings portion of the distribution will be taxed as ordinary income and a 10 percent penalty will also be incurred.”
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