Does a 529 plan affect financial aid? – Councilor Forbes


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The majority of college graduates leave school with student loan debt. But what if you could help your child avoid this problem? Putting money aside in a college savings account can be a great way to reduce the need for student loans.

According to Sallie Mae How America Pays for College report, 37% of families pay for school with a college savings plan, such as a 529 plan. Designed to encourage parents and loved ones to save for a child’s college education, 529 plans offer important benefits fiscal.

However, many people do not open 529 accounts because they are concerned about the impact on a child’s eligibility for grants or scholarships. Does 529 affect financial aid? Usually yes, but not as much as you might think.

What is a 529 plan?

To motivate parents and family members to save money for children’s college education, the government introduced 529 plans. Sponsored by states, government agencies, and educational institutions, these plans are tax-advantaged savings accounts specially designed to help cover the cost of higher education.

While you can put money aside in a high yield savings account or taxable brokerage account and use it for college expenses, there are some important benefits to using a 529 plan instead:

  • Tax deductible contributions. Depending on the state you live in and your plan, you may be able to deduct your 529 contributions from your income tax.
  • Non-taxable income and withdrawals. Money saved in a 529 plan can grow tax free. If you make withdrawals and use the money for qualifying educational expenses, the income and withdrawals are not subject to federal income tax. In some states, withdrawals are also exempt from state income tax.
  • Growth potential. Some types of 529 plans allow you to invest your contributions in securities such as mutual funds and exchange traded funds (ETFs). Over time, your average annual returns could be significantly higher than if you just put your money in a savings account.
  • Exemption from federal tax on donations. In some scenarios, you can contribute up to $ 75,000 ($ 150,000 for married couples) per 529 plan beneficiary without this amount being factored into your lifetime tax exclusion.
  • Corresponding contributions. To encourage parents to save money for college, some states offer direct or equivalent contributions. For example, the state of Louisiana will correspond to 2% to 14% of your deposits each year, based on your household income. Contact your national education agency to see if a similar program is available in your area.

Types of plans 529

There are two types of 529 plans: prepaid tuition plans and education savings plans. All 50 states and the District of Columbia offer at least one type of 529 plan.

Prepaid tuition plan

With a prepaid tuition plan, you can purchase units or college credits at their current prices for future use. Since tuition fees rise steadily each year, purchasing credits while your child is young can dramatically lower your overall education costs. Sometimes there are restrictions on the types of schools the beneficiary can attend, so read the plan documents carefully before paying your money.

Education savings plan

An education savings plan is a tax-advantaged investment account that can be used to pay for eligible educational expenses at virtually any college or university in the United States. Just like your retirement account, however, these investments come with risk; the balance of these 529 plans may increase or decrease depending on the market.

Do 529 Plans Affect Financial Aid?

Many people delay saving money in a 529 – or not using one at all – because they fear opening a 529 will hurt their child’s chances of qualifying for valuable financial aid. , such as federal university aid or needs-based grants.

While investing in a 529 plan will generally affect a child’s eligibility for need-based assistance, the overall impact is usually minimal. To determine the impact of 529 on the recipient’s financial aid status, determine who owns the 529 account and how the money is distributed.

  • The parents of a dependent student have a 529 account. In this case, the 529 plan would report the parents’ assets on the Free Federal Student Aid Application (FAFSA), the form that determines the amount of federal aid to which the student is entitled. A parent’s assets are calculated at the most favorable rate. This means that they would have to contribute a smaller portion of their assets and the child would be eligible for more financial assistance.
  • A student has a 529 account. Plan 529 would be counted in student assets. Students are expected to contribute more of their assets to their own education and therefore would be eligible for less financial aid.
  • A grandparent, family friend, or other relative has a 529 account. Plan 529 would not be counted as an asset. However, the student will be required to report the 529 withdrawals as unearned income to the FAFSA, which is calculated at the least favorable rate. In this example, the student’s eligibility for financial aid would be most negatively affected.

5 strategies to minimize the impact of a 529 plan on financial aid

While a 529 plan can reduce the amount of financial aid based on the needs your child may receive, such as scholarships, federal co-op programs, or subsidized student loans, there are other ways. reduce your child’s education expenses and save money.

1. Save your 529 plan for subsequent school years

When you complete the FAFSA, the form will ask for the information you reported on the previous two years’ tax return. For example, the FAFSA 2022-2023 requires you to submit your 2020 tax return information.

If a grandparent or other parent has a 529 for your child, reserve the money from that fund for the child’s junior or senior year. With this approach, withdrawals from this account (which are counted as student income) will not affect the child’s undergraduate financial aid eligibility.

2. Save plan 529 in the name of a parent or student.

If you plan to open a 529 plan, it is wise to keep it on behalf of the parent or child. It is counted at a much lower rate than 529 plans owned by other family members, reducing the impact on federal financial assistance to which the student may be entitled.

3. Apply for a scholarship

While 529 plans may affect your child’s eligibility for need-based financial assistance, they do not affect your child’s eligibility for merit-based assistance. If your child has good grades, excels at a sport, or has other skills, they may apply for scholarships from universities or private organizations.

4. Consider student loans

Your child may be eligible for federal or private student loans. Whenever possible, federal loans should be used first, as they tend to have lower interest rates and more flexible repayment options. But private student loans can be useful tools to cover potential funding gaps. If you decide to use private loans, compare the offers of several student lenders to get the best rates and terms.

5. Take advantage of tax credits

While your child is in school, you may be able to claim education tax credits that can lower your tax bill or even increase your tax refund.

Planning for College

If you’re worried about how a 529 will affect your child’s financial aid eligibility, you should know that saving 529 usually has little impact. Saving your money now can dramatically reduce your child’s need for other financial aid, thereby reducing the amount of money he has to borrow on student loans. If you need help weighing your options, reducing the impact on need-based financial aid, or paying for your education, consult a financial advisor.

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