Tuesday, December 7, 2021

Our Best Investment



Darcie Guerin

“An investment in knowledge pays the best dividends.” ~Benjamin Franklin


Question: What’s the best way to set aside funds for our grandchildren to help with college expenses?

Answer: If your intention is to designate the funds exclusively for higher education expenses, there are three tax-advantaged strategies available. We’ll focus on these techniques because money not paid out in taxes is that much more available to offset rising college expenses.

There certainly are other ways to save for future generations, but to answer your specific question, here are three tax efficient ways to help offset the growing cost and expense of higher education:

  • 529 Plans

We’ll start with these because this edition of The Coastal Breeze appears on newsstands May 29, which is officially 529 Plan day –get it, 5/29? Anyway, 529 plans are designed to help fund higher education expenses, and offer federal and state tax benefits if they meet certain conditions. The name comes from Internal Revenue Code 26 U.S. Section 529, stating that qualified distributions used for higher education costs are exempt from federal income tax.

Anyone can contribute to a 529 plan, and lifetime contribution limits are high (typically $300,000 and up), and may vary by state. Many states offer their own 529 plan tax benefits, such as an income tax deduction for contributions and tax-free earnings. It’s important to know that if a withdrawal is for a non-educational expense, the earnings portion is subject to federal income tax and a 10% federal penalty (and possibly state tax). This does allow for some flexibility as to the use of funds, if necessary.

A valuable advantage of 529 plans is that you can accelerate gifting, in essence “paying it forward.” A lump-sum gift of up to five times the annual gift tax exclusion ($14,000 in 2015) may be contributed in a single year, per beneficiary. Theoretically, grandparents and/or parents could gift up to $70,000 each or $140,000 as a couple ($14,000 x 5 = $70,000 x 2 = $140,000). No gift tax is owed if the gift is treated as equal installments over a five year period, and no other gifts are made to that beneficiary during those five years. This can be a powerful way to contribute to grandchildren’s education and reduce the value of a taxable estate, especially if there are multiple grandchildren.

  • Coverdell Education Savings Accounts

A Coverdell education savings account (ESA) allows contributions of up to $2,000 per year for a child’s college expenses if the child (beneficiary) is under age 18, and your modified adjusted gross income in 2015 is less than $220,000 if married filing jointly, and less than $110,000 as a single filer. The federal tax treatment of a Coverdell account is the same as a 529 plan; contributions accumulate tax-deferred and earnings are tax free when used to pay the beneficiary’s qualified education expenses. If a withdrawal is used for a non-educational expense, the earnings portion of the withdrawal is subject to income tax and a 10% penalty. The $2,000 annual limit makes a Coverdell ESA less suitable as a way to accumulate significant sums for college, though a Coverdell account may be useful as a supplement to other college savings strategies.

  • Roth IRAs

Generally used as pure retirement savings plans, Roth IRAs are another way to save for college. Contributions can be withdrawn at any time, and are always tax-free (because contributions to a Roth IRA are made with after-tax dollars). For grandparents or parents age 59½ and older, withdrawals of earnings are also tax-free if the account has been open for at least five years. If younger than 59½, a withdrawal of earnings– typically subject to income tax and a 10% premature distribution penalty tax–is spared the 10% penalty if the withdrawal is used to pay a child’s college expenses.

In contrast to the first two plans, Roth savers aren’t penalized when using the money for something other than college. Another benefit is federal and college financial aid formulas don’t consider the value of Roth IRAs, or any retirement accounts, when determining financial need. However, using Roth funds for college does mean that there’s possibly less money available for retirement.

Another way to use a Roth IRA is to establish one for a student who is working and has earned income. Contributions will be available for college costs if needed, yet the funds won’t be counted against the student for financial aid purposes.

Each technique provides benefits as well as restrictions. The choice will depend on your situation and goals. For this reason, there’s no right or wrong way to set aside funds for higher education. Getting started is what matters. It may be helpful to work with your team of trusted professionals, asking for tax and investment guidance along the way.

Stay focused and invest accordingly.


Investors should consider the investment objectives, risks, fees, and expenses associated with 529 plans before investing. More information about specific 529 plans is available in each issuer’s official statement, which should be read carefully before investing. Also, before investing, consider whether your state offers a 529 plan that provides residents with favorable state tax benefits. Finally, there is the risk that investments may lose money or not perform well enough to cover college costs as anticipated Information contained in this report was received from sources believed to be reliable, but accuracy is not guaranteed.

“Certified Financial Planner Board of Standards Inc. owns the certification marks CFP®, CERTIFIED FINANCIAL PLANNER™, CFP® (with plaque design) and CFP® (with flame design) in the U.S., which it awards to individuals who successfully complete CFP Board’s initial and ongoing certification requirements.”

This article provided by Darcie Guerin, CFP®, Vice President, Investments & Branch Manager of Raymond James & Associates, Inc. Member New York Stock Exchange/SIPC 606 Bald Eagle Dr. Suite 401, Marco Island, FL 34145. Call or email Darcie at 239-389-1041 or darcie.guerin@raymondjames.com with questions or suggestions for future columns. Visit her website: www.raymondjames.com/Darcie



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