Five ways to spend unused 529 plan funds
July 26, 2023
Opening a 529 plan is a fantastic way to save for education for a child. Imagine that you have been saving for your child’s college education since she was a toddler. In her senior year of high school, after receiving multiple acceptance letters, your child chooses to attend a state college (less expensive than the private college tuition you were anticipating) and receives a partial scholarship. At her graduation, you find there is money left in the 529 plan account. What are your options for utilizing the remaining funds? You can choose among many including saving for future needs, transferring to another child, repaying student loans, withdrawing for scholarships, or using the funds for nonqualified expenses. Consider the following options:
Save the account for future education needs.
You may decide you want to save the account for the child who may go back to school for a different major (or may decide to attend graduate school).
Transfer the account to another beneficiary.
As the owner of the 529 account, you can change the beneficiary of the account without tax consequences as long as you name a family member of the current beneficiary—which can include the beneficiary’s siblings, children, nieces, nephews, in-laws or parents. For example, you may transfer the account to a sibling to pay for college or a niece to pay for private K-12 education (up to $10,000 annually). You can change the beneficiary of the account to a family member more than once in a 12-month period, but you are allowed to change plan custodians once within a 12-month period.
Since there is no time limit on contributions or distributions from a 529, you may wish to keep the account open to pass it on to a grandchild. Once the grandchild is born, you can change the beneficiary from your child to your grandchild.
It is important to know that if you change the beneficiary of an account to a family member who is two or more generations below the current beneficiary, you may trigger the generation-skipping transfer tax (GST), which could result in using some of your lifetime exclusion amount.
Use 529 plan funds to repay student loans.
With the passage of the SECURE Act in 2019, you are allowed to request qualified distributions from a 529 account to repay principal and/or interest on qualified education loans for the beneficiary, which include federal loans and most private student loans. The borrower can request a distribution up to $10,000 repay a loan. The $10,000 figure is a lifetime limit, not an annual limit (and the limit is per borrower, not per 529 plan). Keep in mind that the amount of the student loan interest paid is not eligible for the student loan interest deduction. If you have multiple children with student loans, you can change the beneficiary to the sibling(s) and use the remaining funds in the 529 to use to repay student loans for each sibling.
Withdraw the funds for scholarships.
If your child receives a scholarship, you can take a nonqualified withdrawal from the 529 in the amount of the scholarship award. As long as you withdraw no more than the amount of the scholarship, you will not have to pay a penalty for withdrawing the funds for nonqualified expense, but you will pay tax on any gains withdrawn from the account. You may wish to utilize this option if you envision no further use for the 529 (whether for future education expenses or passing the plan to another beneficiary).
Use the funds for nonqualified expenses.
If you find you have no use for the remaining 529 plan funds, you can take nonqualified distributions. However, you will have to pay a 10% penalty and pay income tax on any gain in the account. If the funds have grown tax-free in the account for many years, you may find that the investment growth in the account is still more than the penalties and income tax due.
A 529 plan is not only a fantastic investment vehicle for college funding, but it also has many uses—even if all the funds are not used for education expenses for the original beneficiary.
About Laird W. Green
Laird W. Green, CFP® graduated from Furman University in 1992 with a BA in History. She received a Master of Arts in Public History and a Master of Library and Information Science from the University of South Carolina in 1998. Laird received the CFP® designation in 2002 and began working for Abacus Planning Group in 2016.
About Abacus
Abacus is a financial advisory and investment counsel firm focused on serving families with shared assets from businesses to commercial real estate to oil and gas holdings. Managing over $1.7 billion on behalf of its 250-plus families, Abacus consists of a team of multi-disciplinary experts who work collaboratively to serve its clients.
