Saving for college can be a daunting task. We hold education, in our minds, as a gateway to a better life for our children. To give them the keys to their future, we want to help them with the costs of their education. One of the best ways, or at least a great way, to save and prepare for your child’s education, is to start a Missouri MOST 529 College Savings Plan. These plans allow the investment to grow tax-deferred until the child goes to college, and if the expenses are deductible and qualify for the plan, then the earnings on the investment are tax-free.
When talking about a 529 plan, we are referring to qualified tuition programs that create education investments accounts which are given tax advantages thanks to Section 529 of the Internal Revenue Code. A 529 plan allows people to invest in an investment plan administered by a State, such as Missouri, where the earnings of the plans can grow tax-deferred. A beneficiary to the account is named so that when the beneficiary incurs qualified education expenses, the owner of the account can make withdrawals from the account tax-free to pay for those expenses.
A qualified education expense for a 529 plan includes amounts paid to a qualified educational institution for tuition and fees, books, computer technology or related equipment, internet access, special needs equipment, and room and board amounts designated by the program. A qualified educational institution is an educational or vocational program that qualifies to receive federal student aid programs from the Department of Education.
Contributions to a 529 plan are considered gifts to the beneficiary. The giver of the funds would have to file a gift tax return if the contributions exceed the annual gift tax exclusion, which is $15,000 per person in 2018. For a Missouri 529 MOST plan, a plan can have up to $325,000 of contributions added to the plan for the beneficiary. If a withdrawal from the account is not used for qualified education expenses, then the earnings on the principal are taxed at the owner’s tax bracket, with an additional penalty equal to 10% of the earnings. It is possible to have the 10% penalty waived under certain circumstances, such as if the student received a scholarship, or uses veteran’s education benefits.
Each state either has their own 529 plan or lets residents contribute to a different state’s plan. In Missouri, residents can contribute to any state’s plan and still receive a tax deduction on their Missouri income tax return. The account owner can claim a state income tax deduction of up to $8,000 ($16,000 if married filing a joint return) for amounts contributed to a MOST plan. There is no minimum amount of time that the funds have to be in the account before they are used to pay for the qualified expenses. The owner of the account could send payments directly to the educational institution, or withdraw the amount needed from the account to cover the cost of qualified education benefits in the year they occur. One potential pitfall to avoid is to not take out more from the account in a calendar year than the number of expenses to be paid in the same calendar year.
After graduation day has passed for the beneficiary, there might be some leftover funds in the Missouri MOST account. The account owner would still be taxed and penalized if the funds are taken out for any non-qualified expenses. To avoid the penalty and tax on the distributions, the owner of a Missouri MOST plan can change the beneficiary to a qualifying family member. To qualify for the transfer, the beneficiary must be a:
- Son, daughter, stepchild, foster child, an adopted child, or a descendant of any of them;
- Brother, sister, stepbrother, or stepsister;
- Father, mother, or ancestor of either;
- Stepfather or stepmother;
- Son or daughter of a brother or sister;
- Brother or sister of father or mother;
- Son-in-law, daughter-in-law, father-in-law, mother-in-law, brother-in-law, or sister-in-law;
- The spouse of any individual listed above;
- First cousin.
A 529 plan can be a great tool to save for a child’s or a relative’s college. Done correctly, the compounding power of earnings grow tax-free over a long period of time can magnify your savings to be able to pay for the cost of college upfront and in full. Good thing too, because another thing to remember about a 529 plan is that the distributions cannot be used to pay off student loans. So, if you know that you are going to be paying for a college degree in the future, you should start saving now using a 529 plan.
If you would like more information about a 529 plan, Abacus CPAs is here to help! Call us today at 417-823-7171 or visit our website www.abacuscpas.com to see how you can start saving. Better Guidance. Smarter Decisions.
Sam Shafer, CPA