My daughter is considering a Canadian school for her baccalaureate. The school is listed on the United States Department of Education website as a “postponed only” school, which means a student cannot obtain new federal loans while in this school. school. But if she has any existing loans, they can be carried over while she attends that school.
We have 529 plans for my daughter. If we withdraw from 529 and pay tuition and room and board at this school, will this be considered a qualified withdrawal? Or will we have to pay taxes on the withdrawal and a 10% penalty on the winnings?
Confused about college funding
Your question came to mind at a time when the costs of higher education are in the headlines.
The Supreme Court recently heard arguments about the Biden administration’s attempt to write off more than $400 billion in student loans.
Your question is about 529 accounts. But these 529 tax-advantaged savings vehicles and student loans are different parts of the same attempt to pay for a degree. These accounts help families save more for college so students can take on less debt.
Still, if you and your daughter stick with this particular college, there are potential financial pitfalls even with your 529 money.
As you note, an unqualified distribution incurs income taxes on the earnings portion of the withdrawal and a 10% penalty tax on the earnings. Some states may recoup their own tax breaks granted for past contributions.
“For a distribution from a 529 plan to be considered qualified, the college must be eligible for federal Title IV student aid,” said Mark Kantrowitz, an expert on 529 accounts, paying the fees for education and author of books including “How to Appeal for More College Financial Aid.
There are about 400 schools beyond U.S. borders that qualify for federal Title IV student aid and 67 are based in Canada, Kantrowitz noted. Here’s an Education Department web portal to see which national and international schools are eligible, he said.
Regarding your point, however, “since college is identified as a deferred-only school, distributions from a 529 plan to pay for college will be considered non-qualified distributions,” Kantrowitz said. Unqualified distributions would also apply to non-tuition expenses that might otherwise be eligible, he added.
Money from 529 accounts can pay up to $10,000 in student loans per borrower. But, Kantrowitz wrote, “the student must have been enrolled in a college or university eligible for federal Title IV student aid.”
There are exceptions for study abroad programs where the student’s home institution is eligible, he said. But that doesn’t look like your plan here.
Also, if your daughter is pursuing a career in America that requires certain professional licenses, a degree from an unaccredited school abroad could pose problems, Kantrowitz noted.
529 plans explained
I hope my answer doesn’t spoil the plans.
For those unfamiliar with 529 plans: they’re funded with after-tax money, and families can operate them without federal income tax as long as it’s a qualified distribution.
Eligible expenses include tuition, room and board, and books and supplies a student needs to participate in class. These accounts held more than $411 billion combined through December, with an average account balance of $25,630.
Another caveat: Even using 529 money to pay for plane tickets to Canada or gas money would not count as an eligible expense, Kantrowitz said.
But it can be foolish to focus on just one school. By broadening your search, you might find a school that’s good for your daughter — and good for the tax-efficient use of your 529 funds.
“What I say to students and parents is that you shouldn’t have a dream school. Have three dream schools,” Kantrowitz said.
Starting next year, unused 529 money can be transferred into a Roth IRA for a beneficiary. This is thanks to the passage at the end of the year of SECURE 2.0, a far-reaching legislation focusing on retirement savings. Roth IRAs are funded with after-tax money, so they are withdrawn tax-free later. Some of the pre-existing options for unused money include changing the beneficiary.
“The purpose of the relief is for people who want to save early for higher education, but don’t know how much to save,” said Kelley Long, financial coach and founder of Find your Financial Bliss. She added, “It just takes away one of the common arguments against 529s, which is ‘hey, you get punished if you overdo it’.”
The beneficiary’s 529 account must be at least 15 years old and the rollover amount must have been in the account for at least five years. This includes income and contributions, according to an explanation of the new rules from John Hancock Investment Management.
There is an overall maximum of $35,000 that can be transferred into the Roth IRA from a 529. This also mixes with other rules, including annual IRA contribution limits and own requirements. beneficiary’s earned income.
Bottom line: A college degree can help your daughter move forward in her life. If you can’t use 529 money for this purpose, the money could help him advance on his nest egg.