Swimming Against the Current With Your 529 Plan

Swimming Against the Current With Your 529 Plan

A 529 plan, an education savings plan that is operated by a state or educational institution to help families deal with the rising cost of college education, is one of the most powerful tools at your disposal in financially planning.

In addition to being widely available to tax payers at all income levels, the 529 offers generous contribution limits, creditor protection, minimal impact on the eligibility requirements associated with financial aid and various gift and estate tax advantages.

Of course, a plan of this nature doesn't come without risk. A 529 plan is attached to the financial markets and thus, has experienced significant losses over the last couple of years due to the downturn in the economy.

If you're looking for a good strategy to keep your 529 plan afloat (i.e. your current amount is below that of your contributions), Stone Carlie presents some good tips to have in hand in putting together a sensible approach.

Cutting your losses. If your children are still in the toddler stages, it may make sense to scale things back and wait for your plan to recover from the losses. However, should you need your funds immediately, there's a better option: withdraw all of your funds, close the account and claim the loss as miscellaneous itemized deduction. Since you aren't withdrawing any earnings, there are no taxes or penalties involved regardless of how you're using the money. Not only that, you can significantly reduce your tax bill in the process.

More to consider. In addition to cutting your tax bill, you're getting access to your money with no strings attached. It's your choice on how to use the funds -- you can continue to save it for college expenses or use it as you see fit. One key point to remember, should you desire to reinvest the funds in another 529 plan, it's best to wait at least 61 days so the IRS doesn't treat the transfer as a nontaxable rollover and deny the deduction. Additionally, an investment in a new 529 plan may constitute as a new taxable gift for your beneficiary. Be sure to evaluate your $13,000 annual exclusion and $1 million lifetime gift tax exemption will cover it.

Don't try this alone. Losing money in an investment is extremely frustrating. With smart tax planning in place, it can help soften the blow. Whether this strategy works for you depends on several factors, including the amount of time you have to save for college, the availability of other resources to pay for education expenses and your overall income, gift and estate tax situation.

As with any major financial matter, it's best to consult with your tax advisor to evaluate the benefits and risks of withdrawing funds versus keeping them invested.

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