Jessica Ness, CFP®
Jessica Ness, CFP®Senior Vice President, Financial Adviser, Principal

Children around the country are settling into a new school year, and most parents are rejoicing.  The new school year raises many questions, especially for families with college students.  Besides worrying about which classes to take or which meal plan to choose, there are usually questions about how to pay for all these college expenses.

Many of our clients use 529 plans to save for college expenses.  These accounts offer tax benefits when the funds are used for qualified education expenses.  Our colleagues, Parker Trasborg and David Greene, recorded a short video to explain how these savings plans work and I’d encourage you to check it out here.

Many questions arise this time of year, so we’ve collected a few tips to help you withdraw funds from your 529 plan:

Follow the Rules

The key to maximizing the benefits from 529 plans, while avoiding penalties and additional taxes, is to follow the rules of your 529 plan.  Generally, 529 plans can be used to pay for a variety of education expenses including tuition, mandatory fees, books, computers, etc.  The Saving For College website has a great summary article here.

Recent changes expanded what counts as an eligible expense. In 2017, the Tax Cuts and Jobs Act allowed 529 plans to pay for K-12 tuition at private schools. Then in 2019 the SECURE Act allowed a 529 to pay up to $10,000 of the beneficiary’s student loans as well as an additional $10,000 for the student loans of each of the beneficiary’s siblings.

While many of the rules are the same across the country, specific rules may differ in each state’s plan.  Some states take different approaches to the income tax treatment of withdrawals. For example, some states to not allow withdrawals for K-12 expenses to be exempt from state tax.

Be Aware of Deadlines

A qualified education expense must be paid in the calendar year that the bill was incurred.  In other words, the timing of a 529 plan withdrawal must match the qualified expense.  For example, a withdrawal to cover fall tuition must be done prior to the end of that calendar year.  This rule can get confusing because the school year spans two calendar years, but we file taxes annually.

This can get especially tricky with spring tuition payments. If the university bills in December, the family may take a 529 plan withdrawal out in December to pay for it.  But if the family waits until January to pay the actual bill, the 529 plan distribution should be taken in January as well.

Pay the School Directly

Funds can be withdrawn from 529 plans using different methods including sending yourself a check or bank deposit. To simplify record keeping, consider sending the check directly to the school.  The 529 plan will need to know the child’s student ID at the school and the address where the payment should be sent.

Keep Good Records

The 529 plan account owner or beneficiary is responsible for confirming an expense is qualified, and for proving a withdrawal was used to pay for that qualified education expense.  It’s tempting to throw out those receipts or archive the bills in your email. While you won’t need to submit the receipts with your tax return, they will be needed if there is an audit.  We advise our clients to keep a record of every education expense and 529 plan withdrawal with their tax documents.

Tax reporting from the 529 plan depends on who receives the money from the withdrawal. If the money is sent to the account owner, then tax reporting will be under their Social Security number. If the beneficiary or school is the recipient, then tax reporting will be under the beneficiary’s Social Security number.  The form 1099-Q will be issued in January of the year following the withdrawal.

When in Doubt, Ask

529 plan distributions can be complex, so don’t hesitate to consult an expert for guidance.  Give us a call with any questions about 529 plans and how they could help your situation.