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As education costs continue to rise, more and more parents are looking for ways to save for their children’s education. 529 plans are one option that can help you save for higher education expenses.
The average cost of tuition and fees at a four-year public university is now more than $9,600 per year, and the average cost for a private university is more than $33,000 per year.
That’s only the tuition fees! Room and board, books, transportation, and other expenses can add thousands of dollars to the cost of higher education.
My wife and I had to work hard to pay off $56,000 of student loan debt. Having a student loan is a huge burden for parents and students. And no parent wants to leave their child with a student loan to pay off.
That’s why we started a 529 plan for both of our children. We are currently investing $200 ($100 each) per month.
In this article, I will discuss what a 529 plan is, how it works, the benefits of a 529 plan, and how you can get started.
Table of Contents
What is a 529 Plan?
A 529 plan is a state-sponsored, tax-advantaged savings plan designed to help you save for higher education expenses. It is a great way to save for college and doesn’t require any contribution from the student. Since your savings will grow tax-free, you will not have to pay any taxes on the earnings when you withdraw them to pay for college.
As we mentioned, having student debt can be a huge burden. 529 plans can help reduce that burden. So if you are looking for a way to save for college, a 529 plan should be one of your top choices.
Different types of 529 plans
Now that we know what a 529 plan is, let’s look at the various 529 plans available.
There are mainly two types of 529 plans, each of which has its benefits. We will take a deep look into 2 main types of 529 plans, so it will be easier for you to choose one.
1. Savings plan
A 529 savings plan is the most common type of 529 plan. With this plan, you will invest your money in a mutual fund or another investment vehicle.
This can be a great way to save for college because your money will grow. And since the earnings are tax-free, you won’t have to pay any taxes when you withdraw them.
You can use the fund for educational expenses such as tuition, room and board, books, and more. And you can use the money at any accredited college or university in the US.
According to the Federal Law Secure Act, you can use a 529 savings plan for registered apprenticeship program expenses.
You can use up to $10,000 for student loan debt repayment for both beneficiaries and their siblings.
2. Prepaid tuition plan
The other type of 529 plan is a prepaid tuition plan, which differs from a savings plan in many ways.
Some limited states and registered institutions offer the prepaid tuition plan. With this plan, you are buying a future college education for your child.
The cost of the prepaid tuition plan will depend on the state and the institution
One benefit of a prepaid tuition plan is that it is less risky than a savings plan. Your money is invested in a college education for your child, so you know it will be used for that purpose.
However, the prepaid plan doesn’t allow you to use the funds for room and board, books, or other expenses, you can only use the funds for tuition.
The prepaid tuition plan also has a few restrictions, such as you can only use the plan at certain institutions. You might not be able to use the prepaid plan if your children decide to go to a different school or university.
So you must pre-plan everything before signing up for a prepaid tuition plan.
Key differences between Savings Plan and Prepaid Tuition Plan
Now that we have looked at the two types of 529 plans, let’s examine the key differences between them.
- The main difference between the two types of plans is that a savings plan allows you to use the funds for education expenses such as tuition fees, accommodation, transportation, etc. On the other hand, a prepaid tuition plan only allows you to use the funds for tuition fees.
- The other main difference is that a prepaid tuition plan is potentially less risky than a savings plan. With a savings plan, your money is invested in a mutual fund, which can go up or down in value. With a prepaid tuition plan, your money is invested in a future college education for your child, so you know that it will be used for that purpose.
- A prepaid tuition plan usually comes with more restrictions than a savings plan. For example, you might only be able to use the prepaid tuition plan at certain institutions or a state. You won’t be able to use the prepaid plan if your child decides to go to a different school.
- The last key difference between the two types of plans is that a prepaid tuition plan is usually more expensive than a savings plan. The cost of the prepaid tuition plan will depend on the state and the institution.
As you can see, both savings and prepaid plans come with their own benefits.
You must choose the one depending on your specific needs and goals. The best way to decide what you should go for is to consult a financial advisor.
Tax advantages of 529 plans: 529 tax benefits
529 plans are some of the best ways to secure your children’s future. Not only do they offer a wide range of investment options, but they also offer significant tax benefits. Let’s take a look at the three main tax advantages of 529 plans:
- Tax-free growth: The money you invest in a 529 plan grows tax-free. This means you don’t have to pay taxes on the investment gains.
- Tax-free withdrawals: You can withdraw the money from a 529 plan tax-free to pay for qualified education expenses. This includes tuition, room and board, books, and other related expenses. However, any other withdrawals will be subject to income tax and a 10% penalty.
- Estate tax benefits: A 529 plan also offers estate tax benefits. This means that the money in the account is not counted as part of your taxable estate. This can be a significant benefit if you have a large estate.
How to open a 529 plan?
The process of opening a 529 plan is very simple. You need to provide some basic information when setting up the plan. You will also need to choose an investment option for your account.
We currently use Fidelity for our 529 plans. Setting everything up was super easy and didn’t take long.
If you are looking for a way to save for your children’s education, then a 529 plan is the perfect option.
You must keep your children’s future in mind no matter what plan you choose, 529 plans, or other plans like ESA, UTMA/UGMA plans.
Even a small amount each month can grow big if you keep saving for the long term. The sooner you start, the better it will be for you and your children!
We hope the information in this article provides valuable insights to every reader but we, the Biesingers, are not financial advisors. When making your personal finance decisions, research multiple sources and/or receive advice from a licensed professional. As always, we wish you the best in your pursuit of financial independence!