What is the 529 savings plan?

What is the 529 savings plan?

    529s are the most popular college savings vehicle in the United States. There are currently over 14.83 million open 529 accounts, amounting to 424.2 billion in savings. On average, families save $28,679 in these accounts. Every broker and bank worth their salt competes to attract these dollars.

    Named after section 529 of the internal revenue code, 529 plans offer tax-free savings growth and remain a compelling way for families to reduce their reliance on student loans.

    Committing to a 529 increases the chances of your child pursuing higher education: children with a college savings account are 6 times more likely to attend a 4-year college, compared to those with no dedicated account.

    How do 529 college savings plans work?

    529 college saving plans are state-sponsored, but growth is subject to the specific investments of the plan. There are currently 49 state-sponsored 529 savings plans available.

    “529 savings plans are investment accounts”, explains Bob Cole, President and CEO of Private College 529 Plan. “This means funds can benefit from market gains but are also subject to losses. The money saved in a college saving plan can cover various additional educational expenses, such as accommodation.”

    529 incentives come in the form of tax-free earnings and withdrawals. Some state plans even offer matching contributions, i.e., they match a specified percentage of your contributions each year.

    Other features of the 529 plan include:

    • the account owner has control of the account, not the beneficiary
    • the beneficiary can be changed at any time
    • anyone can contribute to the account
    • the account owner does not deal with the state but with the investment company who run the account
    • the owner can move their investment into a different state plan based on performance. This can be done once every 12 months.

    How to open a 529 plan

    There are 2 options when opening a 529 college saving plan. The first, known as direct sold plans, is to manage your own investments, usually directly through the investment company’s trading platform.

    “529 savings plans are investment accounts. This means funds can benefit from market gains but are also subject to losses. The money saved in a college saving plan can cover various additional educational expenses, such as accommodation.” – Bob Cole, President and CEO, Private College 529 Plan

    Alternatively, you can enroll in an advisor-sold plan, meaning the investment firm manages the portfolio on your behalf.

    Opening a 529 plan requires completing an online application through your state’s plan website or with a private broker. During the process, you will usually be asked to set up automatic contributions from your account. The minimum contribution is set at $15 to $25.

    There are no annual contribution limits for 529 plans. However, any contribution over $16,000 needs to be reported to the IRS because it may no longer qualify for gift tax exclusion. There is also an aggregate contribution limit. This varies between state plans and can range from $235,000 to $550,000.

    Generally speaking, 529s can be opened in any state plan – residency is not a criteria. Nevertheless, Cole suggests that families should first consider state tax benefits for their own state’s plan:

    “While there are no federal tax deductions for contributions to a 529 plan, many states offer state income tax deductions or credits for contributions to that state’s 529 plan. However, there are 7 states (AZ, AR, KS, MN, MO, MT, and PA), that allow residents to claim a state income tax deduction or credit for contributions to any 529 plan. After considering the tax benefits, consider fees and investment portfolio options offered through each plan to maximize your saving opportunity.”

    When opening a 529, try to start our with a college savings goal. Many families don’t save for the full cost of college, and with the availability of grants and scholarships, most don’t need to. Use a net price calculator to get a sense of your family’s aid eligibility before deciding how much you need to save.

    529 plan tax benefits

    The main draw of the 529 plan is the tax benefits. Most 529s offer some, or all, of the following:

    1. Tax-deferred growth – The account is allowed to grow without federal or state income taxes. Over several years, the difference been taxed and untaxed growth can be huge.
    2. Tax-free withdrawals – This only applies if you withdraw the money to pay for qualified educational expenses. These are subject to change, but currently include:
      • Tuition – this applies to college and vocational school, as well as up to $10,000 per year for K-12 expenses (in most states)
      • Study-related items – this includes buying textbooks, stationary, computers, and software
      • Accommodation – 529 savings can be used to cover room and board at college
      • Student loans – 529 savings can be used to pay off student loans, but be aware the lifetime limit of $10,000 cannot be exceeded
    3. State tax deductions – In some states, contributions can be deducted from your taxable income
    4. For tax purposes, contributions can be seen as gifts – The limit is $16,000 per individual per year. This accelerated gifting can reduce your personal tax estate
    5. You do not have to report contributions on your federal tax return – This can simplify your tax return

    To make the most of the 529 tax benefits, Cole emphasizes the importance of careful planning when using the funds:

    “To qualify for tax-free distributions, families need to make sure they don’t withdraw too much from their 529 plan during the tax year. Basically, the amount you withdraw shouldn’t exceed the amount you have to pay to cover college expenses. This usually includes tuition, fees, room and board, and a few related expenses, minus any grants and scholarships. Also, if families are claiming the education tax credit, they must deduct the costs used to determine eligibility for the credit.”

    3 tips to save more cash in your 529 plan

    Most 529 plans offer simple tools for others to make gift contributions to your accounts. Take full advantage of these for birthdays and holidays.

    Save early and often

    One way to ensure your 529 account keeps growing is by taking advantage of auto-contribution plans. Virtually every 529 plan will offer an option for families to make monthly, quarterly, or annual contributions to their account.

    Save any extra Income

    If you receive a bonus, inheritance, or annual increase in income, consider adding more to your 529 account. Some plans allow you to set up automatic annual increases to your auto-contributions.

    Involve your family

    Grandparents and other family members often want to help with college expenses. Some open their own 529 accounts or prefer to contribute to the parent’s.

    Does a 529 plan affect federal aid?

    If the account is in the parent’s name, the 529 has little impact on federal financial aid. 529 accounts are looked upon as parental assets, which means the impact on federal aid is less than if these assets were in the child’s name. Current federal aid regulations only consider 5.6% of parental assets and 20% of student assets.

    To get a picture of how this works in practice, assume there are 2 families, each with an adjusted gross income (AGI) of $200,000.

    • Family A saved $100,000 in their 529 account.
    • Family B saved $0.
    • Holding all other assumptions constant*, family A’s Expected Family Contribution (EFC) – which is a number colleges use to determine financial aid eligibility – will only be $5,420 more than Family B, even though Family A has a $100,000 college savings account.

    *Assumptions using 2023-2023 Federal Methodology: for both families, we assume parent federal tax paid $30,000, student income $5,000, student assets $0, 4 household members, 1 in college, age of older parent 50, living in MA.

    Note that if the 529 is under the name of another relative, for example a grandparent, it can reduce a student’s eligibility for financial aid by up to 50%. The table below shows how the owner of the plan can affect financial aid. All figures assume a sum of $50,000 in the account.

    529 details Max aid reduction
    Plan is in the student’s parents name $2,820
    Plan is in the student’s name $10,000
    Plan is in another relative’s name $25,000

    529 prepaid tuition and other alternative savings plans

    A 529 prepaid tuition plan allows an individual to purchase tuition at today’s rates (sometimes with a discount) and redeem it in the future. The money can only be used to pay for tuition, not other expenses.

    With a prepaid tuition plan you can pay with 1 up-front payment, sign up for a 5-year payment plan, or decide on fixed monthly payments.

    These plans are limited to participating colleges, which tend to be public in-state schools. If a student eventually attends a non-participating college, they may lose the benefits this plan provides.

    The advantage of prepaid tuition plans is that they offer a pretty certain hedge against the rising costs of tuition. A disadvantage is that they are currently only offered by 9 states:

    • Florida
    • Maryland
    • Massachusetts
    • Michigan
    • Mississippi
    • Nevada
    • Pennsylvania
    • Texas
    • Washington

    Most prepaid plans are created for the public colleges in their state and have residency requirements. However, those who don’t qualify can consider Private College 529, which allows you to lock in tuition rates at hundreds of colleges nationwide.

    Jump to our interview with Bob Cole for more information on the Private College 529 plan.

    When deciding between a college savings plan and a prepaid tuition plan, Cole suggests parents don’t need to limit themselves to one or the other:

    “Saving in both types of plans could work well, allowing parents to take advantage of what each plan offers: saving on the cost of tuition in a prepaid plan and closing the gap on what prepaid doesn’t cover with a savings plan. This balanced approach will cover a variety of expenses and hedge against market risk.”

    Coverdell ESA

    The Coverdell education savings account (ESA) is an alternative to the 529 and offers similar tax breaks.

    Previously, an advantage the ESA had over the 529 was that savings could be used for K-12 education. The 529 now also offers that benefit, making the ESA less popular. According to the latest figures, there are still $7 billion of Coverdell ESA assets currently invested in mutual funds.

    Coverdell ESA vs 529

    The table below outlines some of the differences between the Coverdell ESA and 529 plan.

    Coverdell ESA 529 Plan
    Contributions are limited to $2,000 per year Contributions can reach the gift tax exemption amount
    If an individual’s adjusted gross income is more than $110,000 they are ineligible to open an account No income restrictions
    Flexibility in investment options (stocks, bonds, mutual funds), makes the ESA more suited to experienced hands-on investors Limited control over investment options
    Contributions must be made before the beneficiary is 18 years old. The funds need to be used before the beneficiary is 30 No age restrictions
    Savings can be used for various K-12 expenses When it comes to K -12, can only be used for tuition

    Roth IRA

    The Roth Individual Retirement Account (IRA) is typically used to save for retirement, but can also be used to save for college. Like the 529, Roth IRA also offers tax-free growth on savings. However, there are significant differences between the 2 plans:

    • The annual ROTH IRA contribution limit is much lower than in the 529 plan
    • Roth IRA contributions are ineligible for state income tax deduction
    • Roth IRA withdrawals count as income on financial aid forms, which can have a significant effect on how much aid is offered

    Roth IRAs are becoming a more popular option to save for college because, like 529 plans, contributions are after tax and earnings grow tax-free.

    “There is no early withdrawal penalty if the funds are used for educational expenses,” Cole explains. “Roth IRAs offer a lot of flexibility for using the funds. The downside? There are annual contribution limits ($6,000 or $7,000) and income phaseouts start at $129,000 (single filers) and $204,000 (married, filing jointly).”


    The Uniform Gift to Minors Act (UGMA) account and Uniform Transfer to Minors Act (UTMA) account are custodial trusts that parents can set up for their children. The main difference is that the money already belongs to the child and cannot be withdrawn until a certain age.

    These accounts offer far greater flexibility than the 529 when it comes to using the funds. For example, the beneficiary might not go to college at all, and use it for an apprenticeship or business venture. Custodial trusts also give greater responsibility to the beneficiary, which may appeal to some parents.

    A significant disadvantage is that the trusts count as student assets and have more of an impact on financial aid than a 529 in their parent’s name. Therefore, Cole believes the 529 remains the best choice for funding education:

    “If a family is intending to use their savings for college, 529 plans just make sense. Beyond the tax benefits, they are treated as parent assets in the federal financial aid formula, meaning they have less impact than student assets. UGMA/UTMA accounts are subject to federal tax. They are considered irrevocable gifts to the named beneficiary and treated as a student asset in the federal financial aid formula — hence they have more impact on financial aid eligibility.”

    How to choose a 529 plan

    First, decide between a pre-paid tuition plan or college savings plan. Most choose one of the 49 state-sponsored college savings plans. You’ll then need to decide between the direct-sold and advisor-sold option. Those with little investment experience tend to choose advisor-sold because the portfolio is managed for them.

    Once you’ve decided to commit to a 529, research the specific plans on offer. Always consider your home-state 529 plan first, as residents may be eligible for additional benefits and tax breaks.

    Another important aspect is the minimum contribution amount. We all want to save as much money as we can for our children’s education, but a 529 is a long-term commitment, and you need to be able to comfortably make the monthly payments.

    Interview with a 529 plan expert


    Bob Cole

    CEO and President of Private College 529

    Bob Cole joined Private College 529 Plan in January 2018 as the new President and CEO. A veteran of higher education, Bob spent 20 years working at a Boston non-profit focused on students and their families. Since joining the Plan, he has overseen the full conversion of Private College 529 from Invesco to Intuition and Charles Schwab. He has guided the Plan through a comprehensive rebrand—launching CollegeWell in Spring 2022—all the while adding new private colleges to the Plan throughout his term.

    What is Private College 529 and how does it work?

    Private College 529 is the only 529 plan owned by the participating colleges and universities. Not only do our member colleges guarantee families’ prepaid tuition, but they also provide expert guidance to help families understand their options for saving and paying for college. Through our parent brand, CollegeWell, financial aid and admissions representatives from our member colleges share their tips and step-by-step guidance through live sessions, videos, and articles.

    What aspects of 529s tend to confuse parents?

    We all know saving for college is an important priority for families. Yet many feel overwhelmed and sometimes paralyzed to begin saving because of the overload of (sometimes conflicting) information.

    We’ve heard many myths over the years, such as, “you can only save in one 529 plan” or “don’t save for college because it will impact your eligibility for financial aid”. Our research shows that even those saving in a 529 plan don’t fully understand the tax benefits.

    To help families understand their college saving options, we partner with trusted resources like financial advisors to break down information and dispel common myths.

    Are there any benefits to the 529 that most people are unaware of?

    Yes! Recent legislation expanded the qualified education expenses that are eligible for tax-free 529 distributions. Before the change, only higher education expenses qualified for tax-free withdrawals, but now families can use up to $10,000 per year for private k-12 tuition and up to $10,000 total to repay student loans. This means even more flexibility for families.

    Any final advice for someone considering a 529 plan?

    Even if you haven’t figured out your exact college savings goal, open an account and start saving. College is one of the biggest expenses a family will have, and the runway is short. Saving early and often opens the door to opportunities in education and limits borrowing.

    FAQs about 529 plan

    The earlier you can open a 529 plan the better. According to a survey by Ascensus, parents who start a 529 when their child is below 5 years old save 70% more than those who wait until the child is 11 or older.

    If a child does not go to college, you can make another family member or yourself the beneficiary, use the savings for an apprenticeship or K-12 education, or pay off student loan debt. Use the funds for another purpose, and a withdrawal fee applies.

    This depends on whether you plan to foot the entire bill of your child’s education or just part of it. The payments will be less if you start saving earlier. For an accurate answer, use one of the many online college cost calculators and divide the amount by the remaining time you have to save. Generally speaking, if you open a 529 plan when your child is born, you need to put away $250 a month to fully cover college costs.

    Yes, you can use 529 savings to pay for graduate school. This includes master’s degrees, doctoral degrees, law degrees, and medical degrees.

    Yes, you can use your 529 to pay off student loans. However, there is a $10,000 limit. The 529 cannot be used to pay off other types of loan without a withdrawal fee.

    As a parent, you can have multiple 529 plans for different children. A child can also be the recipient of several 529 plans, if, for example, other relatives want to open a plan on their behalf.

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