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Understanding the basics of a 529 plan

The name comes from the section of the U.S. tax code where they are defined.






You may have heard about 529 plans in the course of conversation about paying for college with friends and coworkers. You might see them mentioned in articles about financial planning for your future children, or news broadcasts about the growing costs of college. You may have even had one help pay for college when you attended your alma mater – although you might not have known about it. You’re just not sure exactly how it works and how to get one started, but understanding 529 college savings plans is fairly simple.

What exactly is a 529 plan and what makes it a useful tool for saving for your kids’ college education?

The basics of  understanding 529 college savings plans 

At its core, the 529 plan is a method of saving money for a child’s college education through investment that offers certain tax advantages and other financial incentives. The name comes from the section of the U.S. tax code where they are defined. The term applies to two very different methods, as Investopedia pointed out:

  • Prepaid tuition option: This 529 plan option is offered through individual states and universities, giving parents (or anyone else making payments for a designated beneficiary) the chance to pay today’s prices for future educational opportunities. Depending on the specific arrangement, you would start paying now for a certain number of classes or semesters once your child reaches college age. Considering how quickly the price of college has risen as compared to general inflation, this can lead to understanding 529 college savings planssubstantial cost savings. Only some states and schools currently accept new participants into prepaid tuition plans, which means availability is highly variable. They generally don’t cover room and board.
  • Savings option: The other 529 plan option allows for financial contributions up to a certain limit, which go into mutual funds and other investments that provide a return. The growth of the investments provides a larger amount to pay for college than simply setting aside the funds in a savings account or similar approach. These plans can be adjusted over time to move money from riskier, high-reward investments to more stable ones, avoiding potential losses soon before the beneficiary starts college. The savings plan is offered only by individual states, which means beneficiaries can use the returns to pay for schools both in and out of state, public and private. The savings option can be used to cover room and board.

No matter which approach you choose, one important thing about understanding 529 college savings plans is the 529 plan means avoiding taxes on money invested that goes toward eligible college expenses – as long as the money is withdrawn and used properly. Although the specifics are highly variable, they can also offer an assortment of benefits on the local and state level, from tax reductions to matching grants.

Because the two options are so different – and because 529 plans can be offered directly by a school or state government, or be provided by a broker, the U.S. Securities and Exchange Commission pointed out – it’s vital to understand the specifics of any plan before participating. Understanding 529 college savings plans is important because they can help you make the best choice for your particular circumstances and needs.

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When you click links marked with the “‡” symbol, you will leave UMB’s Web site and go to Web sites that are not controlled by or affiliated with UMB. We have provided these links for your convenience. However, we do not endorse or guarantee any products or services you may view on other sites. Other Web sites may not follow the same privacy policies and security procedures that UMB does, so please review their policies and procedures carefully.