A 529 plan is a type of investment tuition savings plan. It is named after Section 529 of the Internal Revenue Code (IRC).
Authorized to give “tax-free” status to qualified tuition programs, the earnings also accumulate on a tax-deferred basis and the distributions aren’t federally taxed when used for qualifying “higher education” expenses. The qualifying higher education expenses were expanded to not only include tuition and books but also computers, up to $10,000 annually in K-12 tuition, student loans, room and board, and costs of apprenticeship programs. Expenses that are not covered include college application and testing fees, health insurance, transportation/ travel costs, and extracurricular activity fees.
529 plans are offered in nearly every state and you don’t have to live in the state that you choose to invest in. However, you should do plenty of research before choosing a 529 plan. Just as there is a basic set of rules that each state follows; they also have their version of it. Meaning plans may differ from state to state. A few types of 529 plans are the ABLE Plan, Broker Sold Savings Programs, Direct Sold Savings Programs, Prepaid Contract, and Prepaid Unit/Guaranteed Savings. They are all vastly different from one another and offer different advantages.
College Savings Plans work much like a Roth 401(k) or Roth IRA by investing your after-tax contributions in mutual funds or similar investments. The 529 college savings plan offers several investment options from which to choose.
The 529 plan account will go up or down in value based on the performance of the investment options. You can see how each 529 plan’s investment options are performing by reviewing our quarterly 529 plan performance rankings. Prepaid Tuition Plans let you prepay all or part of the costs of an in-state public college education.
They may also be converted for use at private and out-of-state colleges. The Private College 529 Plan is a separate prepaid plan for private colleges, sponsored by more than 250 private colleges.
Once you’re ready to start taking withdrawals from a 529 plan, most plans allow you to distribute the payments directly to the account holder, the beneficiary or the school. Some plans may allow you to make a payment directly from your 529 account to another third party, such as a landlord. Remember, you will need to check with your own plan to learn more about how to take distributions. Depending on your circumstances, you may need to report contributions to or withdrawals from your 529 plan on your annual tax returns.