Section 529 Plans, one of the ways that parents save for their children’s college expenses, have always been rather inflexible. Those challenges have been one of the reasons why many parents have shied away from them.
What happens if your kid doesn’t go to college? What if you don’t have another beneficiary to name?
Since the advent of these savings plans back in 1996, many things have changed. Notable are the facts that 529 plans can now be used for…
1 – Kindergarten through Grade 12 education expenses
2 – And for repayment of student loans up to $10,000.
Generally there’s much more leeway to tap the savings by both savers and beneficiaries.
Beginning this year, 529 plans if unused, can now be rolled over into Roth IRAs on a tax free basis. In order for it to be tax free, the following rules apply…
1 – Only up to $35K of unused 529 funds can be rolled over in the lifetime of the plan.
2 – Contributions made in the past five years cannot be rolled over.
3 – The 529 Plan must have been open a minimum of 15 years.
4 – Contributions are subject to the Roth Contribution rules. This year, the maximum annual contribution for a Roth is limited to $7K.
Let me leave you with this.
Formal college savings plans have always come under fire for several reasons. The ugliest of these critiques would happen if you began saving for your child’s education needs at birth, and eighteen years later your child became a drug addict and decided not to go to college.
In that instance, you might be doing nothing but enabling that addiction because the kid could possibly get access to the funds.
Other critiques come because contributions to 529 plans are not tax deductible at the federal level. Illinois taxpayers receive a deduction, but the 5% you save in State Tax pales in comparison to what could be saved at the Federal Level.
So here’s an alternative for college savings that you won’t hear from a financial planner.
What would happen if when your child is old enough to do something at your company, you put them on the payroll for the IRA contribution limit? Your child works and get’s a W-2 for $6,500 annually that you immediately deposit into a Roth IRA.
It’s fully deductible at the corporate level, and since that amount is below the standard deduction, you would only pay $322 to the State of Illinois for taxes on the individual returns. In other words, other than the payroll taxes inherent on a W-2 and a small State Income Tax, the contribution would be almost tax free.
You employ your child for let’s say 10 years. When it comes time for college, many don’t know that distributions for qualified education tuition and fees are not subject to the 10% early withdrawal penalty.
And since the money is coming out of a Roth, you don’t pay tax on the distributions either.
You’ll never get this tax saving idea from a financial planner because they can’t get commissions from an IRA. This is just another way to skin a cat if you’re working with high income taxpayers, as we do all the time.
If you have questions, please let me know…
We’re all going to get through this. Let’s get through it together.
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