Talk to me about 529 plans

[gayl]

I think I have a weird situation. I have 2 kids & a GS that lived with me until college.
1. DS fell a few months behind during the pandemic layoffs in paying full child support and mortgage. He came to me asking me to refinance his house with him so that he could get caught up. I said no I did not have enough pension income to cover the loan qualification. I did not say that I had the money in the bank to pay the loan off because I wanted him to figure it out. A year later he's back to saving for his children's college fund
2. DD will never be on easy street. She barely gets enough income to cover mortgage, property taxes, and month to month needs. I'd be surprised if she has much of a savings account. Her kids will definitely be eligible for FAFSA
3. GS1 worked his butt off all the way through college, is now 24, I made his 1st year Roth deposit, getting set to add to last year's but he already did it. He owes less than 7500 in college loans but if Biden forgives up to 10k that means he's overpaid his loans. I only know this because he wanted me to look over his tax return before he filed it (1st time he's done one)

So if I start a 529, what happens if:
1. It's not needed
2. Can it be for great GKs (#3) or is it just for GPS
3. Can GS use it for grad school? Wants to go back once loans are paid off (thinks next year -- 2022/2023)

I would ask Schwab but I'm concerned that might turn into a 'sales call.'

 

[Ncc1701]

If the funds are not used for higher education expenses, there is a penalty applied on the growth portion of 10% (I believe that is the correct percentage but could be wrong).

You can change the beneficiary of a 529 to anyone at anytime.

The folks at Schwab who answer the 529 line are not sales people and are there to provide service. Don't hesitate to contact them although any tax related questions, they may not be able to answer.

 

[HenryD]

529 can be used for grad school. DD is planning on it.

 

[SecondCor521]

If it's not needed, then you can roll it down to other relatives - the definition of relatives is fairly expansive and certainly includes great-grandkids if you set it up with DGS as a beneficiary. (It's not quite "everyone" as NCC1701 states above, but not sure what happens if you transfer it from DGS to, say, your next door neighbor. Probably not an issue in your case anyway.)

You can also take distributions which are non-qualified (i.e. not used for educational expenses) and the beneficiary owes ordinary income taxes plus a 10% penalty (Yes, @NCC1701 that's the right percentage) on the portion of the withdrawal that is attributable to earnings. You can avoid the 10% penalty to the extent that there are scholarships that the beneficiary received.

What I did was take a NQ distribution for my oldest son during the fall of his senior year. The 10% penalty was avoided because he had earned scholarships his freshman year. He also paid no income taxes because as a FT college student that year he had zero income.

And yes, you can use it for grad school, as long as it is for qualified educational expenses as outlined in Pub 970 (essentially tuition, books, fees, equipment, room and board if at least half time, and computer stuff).

Finally, I'll add that the SECURE Act added the payment of up to $10K of student loans as a qualified educational expense, so you could use 529 money to pay off the $7500 student loans of DGS if you wanted. You'll have to assess the probability of student loan forgiveness vs. paying the interest to decide if you want to use this provision. There is also a student loan interest and fees deduction which may apply for DGS if you decide to keep the loan.

Oh, one other thing. Some states (mine included) have a state income tax deduction for 529 contributions and no requirement on how long the money needs to stay in the account. So what you can do is "529 rinse" things by opening a 529, contributing, say, $6K into the 529, taking the money out a day later and pay off $6K of DGS's student loan or fall semester of grad school, and then deduct $6K on your state income tax return for that year. (Not all states have income tax deductions, and the limit may be higher or lower than $6K, and some states prevent 529 rinsing - do your own due diligence on this part, but the principle exists regardless.)

ETA: One more thing. DGS probably will qualify for the Lifetime Learning Credit. Just be sure not to double dip - you can't take the LLC for expenses paid for by the 529.