Perhaps you or your child got a scholarship, decided on a shorter degree or certificate program — and your 529 college savings plan went unused.
What can you do with leftover 529 money?
The good news is that a 529 plan after college can still be valuable. You could transfer the funds to a family member, make qualifying withdrawals and, thanks to recent legislation, even employ 529 funds to pay student loans down.
However, the way you access it matters, so carefully consider your options before you move forward.
It’s possible to withdraw money from a 529 plan, but it might not be your best choice, said Scott Higgins, a financial advisor with Rose Street Advisors.
When you withdraw money for non-qualified expenses, Higgins said, the earnings are treated as income and are subject to federal income tax. The earnings are also subject to a 10% penalty from the IRS.
Higgins said the principal portion is not subject to the 529 plan penalty. Because contributions to the 529 plan are made after-tax, you don’t see the same impact on the principal. However, if your state offers a state income tax deduction for contributions, it might require you to repay all or part of your tax benefit.
Before you decide to make 529 plan withdrawals for non-educational expenses, consider using the money in a better way. Here are three ways you can avoid paying taxes and penalties on the earnings (and reap 529 plan tax deductions instead).
“An account holder may change the beneficiary for the benefit of another qualifying family member, such as other children or grandchildren,” Higgins said.
If you have money left over from one child, you can change the plan beneficiary to someone who will be going to school in the future. Student Loan Hero interviewed one woman who successfully saved for college with 529 plans: She transferred 529 funds from her older son’s account to his younger brother’s, where it was needed more.
As Higgins said, “the balance may remain in the account indefinitely with no required withdrawals” — so you can even wait until your child has children.
However, there might be other problems when you skip a generation: Generation-skipping “could trigger tax penalties depending on how much you gift and to how many beneficiaries,” said Greg Knight, a certified financial planner with Engage Advising.
Currently, a single beneficiary could receive up to $15,000 a year before the IRS could charge a gift tax. Consult with a financial professional or tax professional before you move forward. You want to ensure that you get the best use of the money by minimizing potential taxes.
Also, consider that assets in a 529 plan owned by the parent or student count against financial aid on the FAFSA, or Free Application for Federal Student Aid. But what you have in a 529 for a grandchild doesn’t.
However, once you start withdrawing money for your grandchild to use for college, it counts as untaxed income to the student — that’s when it can impact their financial aid, so it’s important to keep this in mind and plan accordingly.
Another option is to withdraw some of the money for other uses if your child finds a scholarship.
“If a child receives a scholarship, a withdrawal may be taken in an equal amount up to the tax-free scholarship,” Higgins said. “The withdrawal will be subject to the federal income tax on earnings, but the 10% penalty will not apply.”
A scholarship can be a great way to pay for school. It reduces what you need to pay and what your child needs to borrow. Prepare as much as possible with a 529 plan, and know that you have options if your child gets a scholarship.
Of course, if you don’t want to pay taxes on the earnings, you can revert to naming a new beneficiary so someone else can use the money.
Even you can benefit from the leftover money in a 529 plan. The 529 plan penalty doesn’t apply if you become the beneficiary and use the money for qualified educational expenses.
So if you dream of going back to school, now is your chance — especially since you can do it penalty-free. Just be sure to save your receipts and only make withdrawals for tuition payments due during the same tax year.
And if you’ve been there, done that on campus, you could use up to $10,000 of your 529 plan balance to repay existing student loans (or those of your siblings). The $10,000 lifetime limit comes via the House Ways and Means Committee’s Secure Act, which was passed into law in Dec. 2019. .
Like with using 529 funds to go back to school, putting your 529 toward student loans would require naming yourself the account beneficiary. Or you could withdraw funds for the current account beneficiary — your child or grandchild — to repay their student loan debt if they have any.
No student debt in the family? No problem. You could always leave the leftover 529 money where it is, allow it to grow. Perhaps, down the road, a great-grandchild will employ it one day to avoid student loans.
In the end, you want to manage your withdrawals to minimize the 529 plan penalty. If possible, take steps to ensure that the money is used for qualified expenses, such as using a 529 to pay student loans off. That way, you avoid taxes on the earnings and stay away from the 10% penalty.
However, there are times when you might not be able to use the money for qualified education expenses. Or maybe you decide you need the money for something else — if that’s the case, it might be worth it to go ahead and accept the taxes and penalty to get access to the capital. You might use the funds to pay down other debt or accomplish another financial goal.
Andrew Pentis contributed to this article.
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1 Important Disclosures for Earnest.
To qualify, you must be a U.S. citizen or possess a 10-year (non-conditional) Permanent Resident Card, reside in a state Earnest lends in, and satisfy our minimum eligibility criteria. You may find more information on loan eligibility here: https://www.earnest.com/eligibility. Not all applicants will be approved for a loan, and not all applicants will qualify for the lowest rate. Approval and interest rate depend on the review of a complete application.
Earnest fixed rate loan rates range from 2.98% APR (with Auto Pay) to 5.79% APR (with Auto Pay). Variable rate loan rates range from 1.99% APR (with Auto Pay) to 5.64% APR (with Auto Pay). For variable rate loans, although the interest rate will vary after you are approved, the interest rate will never exceed 8.95% for loan terms 10 years or less. For loan terms of 10 years to 15 years, the interest rate will never exceed 9.95%. For loan terms over 15 years, the interest rate will never exceed 11.95% (the maximum rates for these loans). Earnest variable interest rate loans are based on a publicly available index, the one month London Interbank Offered Rate (LIBOR). Your rate will be calculated each month by adding a margin between 1.82% and 5.50% to the one month LIBOR. The rate will not increase more than once per month. Earnest rate ranges are current as of July 31, 2020, and are subject to change based on market conditions and borrower eligibility.
Auto Pay discount: If you make monthly principal and interest payments by an automatic, monthly deduction from a savings or checking account, your rate will be reduced by one quarter of one percent (0.25%) for so long as you continue to make automatic, electronic monthly payments. This benefit is suspended during periods of deferment and forbearance.
The information provided on this page is updated as of 7/31/2020. Earnest reserves the right to change, pause, or terminate product offerings at any time without notice. Earnest loans are originated by Earnest Operations LLC. California Finance Lender License 6054788. NMLS # 1204917. Earnest Operations LLC is located at 302 2nd Street, Suite 401N, San Francisco, CA 94107. Terms and Conditions apply. Visit https://www.earnest.com/terms-of-service, email us at [email protected], or call 888-601-2801 for more information on our student loan refinance product.
© 2020 Earnest LLC. All rights reserved. Earnest LLC and its subsidiaries, including Earnest Operations LLC, are not sponsored by or agencies of the United States of America.
2 Important Disclosures for Laurel Road.
Laurel Road Disclosures
All credit products are subject to credit approval.
Laurel Road began originating student loans in 2013 and has since helped thousands of professionals with undergraduate and postgraduate degrees consolidate and refinance more than $4 billion in federal and private school loans. Laurel Road also offers a suite of online graduate school loan products and personal loans that help simplify lending through customized technology and personalized service. In April 2019, Laurel Road was acquired by KeyBank, one of the nation’s largest bank-based financial services companies. Laurel Road is a brand of KeyBank National Association offering online lending products in all 50 U.S. states, Washington, D.C., and Puerto Rico. All loans are provided by KeyBank National Association, a nationally chartered bank. Member FDIC. For more information, visit www.laurelroad.com.
As used throughout these Terms & Conditions, the term “Lender” refers to KeyBank National Association and its affiliates, agents, guaranty insurers, investors, assigns, and successors in interest.
Assumptions: Repayment examples above assume a loan amount of $10,000 with repayment beginning immediately following disbursement. Repayment examples do not include the 0.25% AutoPay Discount.
Annual Percentage Rate (“APR”): This term represents the actual cost of financing to the borrower over the life of the loan expressed as a yearly rate.
Interest Rate: A simple annual rate that is applied to an unpaid balance.
Variable Rates: The current index for variable rate loans is derived from the one-month London Interbank Offered Rate (“LIBOR”) and changes in the LIBOR index may cause your monthly payment to increase. Borrowers who take out a term of 5, 7, or 10 years will have a maximum interest rate of 9%, those who take out a 15 or 20-year variable loan will have a maximum interest rate of 10%.
KEYBANK NATIONAL ASSOCIATION RESERVES THE RIGHT TO MODIFY OR DISCONTINUE PRODUCTS AND BENEFITS AT ANY TIME WITHOUT NOTICE.
This information is current as of September 9, 2020. Information and rates are subject to change without notice.
3 Important Disclosures for SoFi.
4 Important Disclosures for Splash Financial.
Splash Financial Disclosures
Terms and Conditions apply. Splash reserves the right to modify or discontinue products and benefits at any time without notice. Rates and terms are also subject to change at any time without notice. Offers are subject to credit approval. To qualify, a borrower must be a U.S. citizen or permanent resident in an eligible state and meet applicable underwriting requirements. Not all borrowers receive the lowest rate. Lowest rates are reserved for the highest qualified borrowers. If approved, your actual rate will be within a range of rates and will depend on a variety of factors, including term of loan, a responsible financial history, income and other factors. Refinancing or consolidating private and federal student loans may not be the right decision for everyone. Federal loans carry special benefits not available for loans made through Splash Financial, for example, public service loan forgiveness and economic hardship programs, fee waivers and rebates on the principal, which may not be accessible to you after you refinance. The rates displayed may include a 0.25% autopay discount.
The information you provide to us is an inquiry to determine whether we or our lenders can make a loan offer that meets your needs. If we or any of our lending partners has an available loan offer for you, you will be invited to submit a loan application to the lender for its review. We do not guarantee that you will receive any loan offers or that your loan application will be approved. Offers are subject to credit approval and are available only to U.S. citizens or permanent residents who meet applicable underwriting requirements. Not all borrowers will receive the lowest rates, which are available to the most qualified borrowers. Participating lenders, rates and terms are subject to change at any time without notice.
To check the rates and terms you qualify for, Splash Financial conducts a soft credit pull that will not affect your credit score. However, if you choose a product and continue your application, the lender will request your full credit report from one or more consumer reporting agencies, which is considered a hard credit pull and may affect your credit.
Splash Financial and our lending partners reserve the right to modify or discontinue products and benefits at any time without notice. To qualify, a borrower must be a U.S. citizen and meet our lending partner’s underwriting requirements. Lowest rates are reserved for the highest qualified borrowers. This information is current as of September 10, 2020.
5 Important Disclosures for CommonBond.
Offered terms are subject to change and state law restriction. Loans are offered by CommonBond Lending, LLC (NMLS # 1175900), NMLS Consumer Access. If you are approved for a loan, the interest rate offered will depend on your credit profile, your application, the loan term selected and will be within the ranges of rates shown. All Annual Percentage Rates (APRs) displayed assume borrowers enroll in auto pay and account for the 0.25% reduction in interest rate. All variable rates are based on a 1-month LIBOR assumption of 0.16% effective Sep 1, 2020 and may increase after consummation.