529 Plans: Which Are Qualified and Non-Qualified Expenses

Ken Weingarten |
Categories
College Planning
Investing for College

Opening and funding a 529 plan for college expenses can be a great way to save for college along with the tax benefits – tax-free growth and tax-free withdrawals. There is one big “if” which relates to the ‘tax-free withdrawals’ benefit. If the money is used for qualified education expenses, they can be classified as tax-free withdrawals. Here, we will go over common qualified expenses and non-qualified expenses to help you avoid the 10% tax penalty as well as federal income taxes on any investment earnings.

Qualified Expenses

  • Tuition – As long as the college/university is accredited, tuition counts as a qualified expenses for full-time and part-time students. While most institutions are accredited, it is best to confirm this with their financial aid office.
  • Room and Board – This is considered a qualified expense if the student is enrolled at least half-time or more. Off-campus housing can be considered a qualified expense though this is subject to the school’s cost of attendance allowance as it relates to housing.
  • Technology/Books/Supplies – In general, most common items, e.g., laptops, internet service, textbooks, lab supplies, etc. are considered qualified expenses. Some schools may set budgets for how much can be spent on books and supplies so it is recommended to check with their financial aid office.
  • Student Loan Repayment – Qualified distributions can be made up to $10,000 per borrower. An important point to keep in mind is this a lifetime limit. Even if there are multiple 529 plans opened for the same beneficiary, only $10,000 may be distributed for this qualified expense. Another important point is what counts as a qualified education loan. While all federal loans and most private loans qualify, other loans such as credit cards or home equity loans do not qualify.
  • K-12 Tuition – Tuition at a public or private school is considered a qualified expense up to $10,000 per year on the federal level. Certain states may not conform to the federal level. (Residents of NJ and PA can use 529 funds for K-12 tuition expenses.)
  • Roth IRA Contributions – As part of the SECURE 2.0 Act, individuals will be able to rollover a lifetime limit of $35,000 from a 529 plan to a Roth IRA owned by the beneficiary of the 529 plan starting 2024. Because the annual Roth IRA contribution limits still apply, it will take several years to reach the $35,000 limit. Any contributions made by the beneficiary will reduce how much can be rolled over in a tax year. One of the major requisites for this strategy is have opened and maintained a 529 plan for at least 15 years. More information can be found in our earlier blog.

Non-Qualified Expenses

  • Transportation and Travel – Day-to-day travel expenses such as gas are not considered qualified expenses nor is airfare when coming home for the holidays.
  • Extracurricular Activities – Joining a sport or fraternity/sorority can include some expenses. While schools may bill this expense, they are not considered a qualified expense. Some fraternity/sorority housing costs may qualify but it is best to check with the financial aid office.
  • Health Insurance – Some families may opt to obtain coverage from a plan provided by the school as opposed to staying on the family’s plan. Even though the expense may be billed by the school, it is not considered a qualified expense as this is not education-related.

Conclusion

529 plans can be a great savings vehicle to meet college expense goals. When the time comes to use the funds, it is important to understand potential pitfalls and utilizing these savings in the most efficient manner possible. Consulting with a fee-only financial advisor can help you navigate this complex space.

 

Weingarten Associates is an independent, fee-only Registered Investment Advisor in Lawrenceville, New Jersey serving Princeton, NJ as well as the Greater Mercer County/Bucks County region. We make a difference in the lives of our clients by providing them with exceptional financial planning, investment management, and tax advice.