Basics of a 529 Plan and How it Works

Basics of a 529 Plan and How it Works

Date: December 10, 2019,

Most parents have high hopes of sending their children to college. But for many parents, coming up with the capital at the time the child turns 18 can feel like an impossibility. Indeed, the average cost of going to college in the United States is $10,116 per year at a public, in-state college and over $36,000 per year at a private college, according to a recent US News report. That’s a lot of cash.

Fortunately, there are plans for saving that are designed to help parents save up for their kids’ college education in a way that is feasible and tax-advantaged. One way to save for your child’s college education is with a 529 plan.

What’s a 529 Plan?

According to Investopedia, a 529 plan is a type of tax-advantaged savings plan that’s specifically designed to help parents pay for college. While the plan was originally only intended to pay for higher-education costs (such as enrollment in a university), today, the plan can also be used to cover K-12 education costs. 

How Does it Work?

Once a 529 plan is established, the money within that plan can be used to pay for education costs. The two types of 529 plans are:

  • College savings plans. The college savings plan works very similarly to other investment saving options, such as an IRA. With this type of plan, the plan holder will invest money into the 529 plan, which will then be invested in mutual funds (or other similar investment types). Then, the value of the account will increase or decrease over time depending on how investments perform. Over time, assets held in a 529 plan are expected to grow.
  • Prepaid tuition plans. In a prepaid plan, on the other hand, you can pay for future studies ahead of time at current rates. Note that only a few states have prepaid 529 plans. 

In addition to helping you grow your money for your child’s education, there are also some tax benefits of a 529 plan. For example, you’ll benefit from:

  • Tax-deferred investment growth;
  • 100 percent tax-free withdrawals (assuming the money is used for education); and
  • Depending on where you live, state tax deductions for contributions.

Learn More About 529 Plans

Establishing a 529 plan may be a smart and manageable way to start saving for your child’s education now, especially if you’re a new parent. To learn more about 529 plans, financial planning, and preparing for the future, reach out to one of our Certified Financial Planners™ at Harvest Financial Planning, LLC today.

Prior to investing in a 529 Plan, investors should consider whether the investor’s or designated beneficiary’s home state offers any state tax or other state benefits such as financial aid, scholarship funds, and protection from creditors that are only available for investments in such state’s qualified tuition program. Withdrawals used for qualified expenses are federally tax free. Tax treatment at the state level may vary. Please consult with your tax advisor before investing.

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