Gifting college savings: The power of 529 plans for your grandkids this holiday season
Have your adult children mentioned their kids don’t need any more toys and they don’t want random “stuff” this holiday season? While you might be accustomed to placing dozens of packages under the tree to show you care, younger generations may have a different love language. Experiential gift-giving is on the rise, with 45% of consumers gifting experiences in 2024, according to a TD Bank survey. Gen Z led the pack, with 68% of this cohort gifting experiences, and millennials weren’t far behind, at 61%. Why not follow their lead and give something your adult kids can really use this holiday season?
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Experiential gifts can come in the form of vacations, season tickets to an attraction, gift cards to a favorite restaurant – or a financial present that gives your grandchildren a headstart on their higher education. It’s never too early for parents to start thinking about college. If you’re in a position to help, starting a 529 plan for your grandchild is one way to do so, with added tax benefits for yourself.
What is a 529?
A 529 plan is a way to help someone pay for college through a tax-advantaged savings account. The money grows, tax-deferred, until the beneficiary pulls it out for qualified education expenses. In many cases, withdrawals are tax-free. As with any financial decision, there are some things to be aware of when you’re gifting a 529. Jonathan Sparling, vice president, strategic partnerships at CollegeWell, shared with us the pros and cons of gifting a 529 to a grandchild.
Pros
There are many good reasons to gift a 529 to your grandchild or other loved one this holiday season.
Even if tuition is covered by scholarships or military programs, beneficiaries can still use the money
If your grandchild receives a full scholarship for higher education, or enters the military and can take advantage of the GI Bill or Yellow Ribbon program, 529 savings can still pay for additional expenses, including housing, transportation, food, and books.
“If the scholarship covers all qualified expenses, families can withdraw funds from their 529 plan, up to the amount of the tax-free scholarship, and avoid the non-qualified withdrawal penalty,” Sparling explained. “However, the earnings portion of the 529 plan is still subject to income tax.”
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One common concern when gifting a 529 contribution rather than physical cash or other investments is: What happens if the grandchild doesn’t go to college?
Donors have options. You can transfer the account to another person attending college or to pay for continuing education for yourself.
But if you want to keep the gift in the hands of that grandchild, Sparling said, “Any unused funds from a 529 plan can be rolled over into a Roth IRA for the same beneficiary, giving them the gift of a head start on retirement savings.”
529 plans in a grandparents’ name do not count as college funds on the FAFSA
If a parent opens a 529 for their child, the money in the account can reduce the student’s financial award by as much as 5.64% of the plan’s value.
However, a 529 with a grandparent listed as the donor does not follow the same rule. “Thanks to the FAFSA Simplification Act, 529 plans owned by grandparents– or anyone other than a parent– won’t be counted as an asset on the FAFSA formula,” Sparling said.
Potential tax deductions
Donors fund 529 plans with after-tax dollars. However, nearly 40 states offer full or partial tax deductions or credits for contributions, according to SavingforCollege.com. This is typically taken as an “above-the-line” deduction, which means you can write it off on your state income taxes even if you don’t itemize. If you’re looking to reduce your state tax liability with time running out in 2025, a 529 contribution to your grandchildren can help.
Transfer generational wealth without estate taxes
For high-net-worth families, a 529 plan can help transfer significant amounts of wealth through superfunding. If your retirement is covered and you’re already living well, you can transfer wealth now, without tax ramifications, and give your grandchildren a gift that will help them in the future. 529 contributions qualify for the annual gift tax exclusion of up to $19,000 per beneficiary ($38,000 for married couples filing jointly). Through superfunding in 2025, Sparling explained, “Individuals can gift up to $95,000 per beneficiary ($190,000 for married couples, filing jointly), further reducing their taxable estate.”
Cons
One of the key concerns is if the recipient doesn’t need the money for college. This is a valid concern with ways to keep or transfer the funds, tax-free, as outlined in the “pros” section. However, depending on how the money is used, there might be some drawbacks.
Limitations on Roth IRA transfers
You can roll over unused funds from a 529 into a Roth IRA for the same beneficiary.
“However, it is important to note that the 529 plan must have been in the beneficiary’s name for at least 15 years, and any funds must have been invested for a minimum of five years before they are eligible for rollover,” Sparling said. “There is also a limit on how much money can be rolled over each year (for 2025, that is $7,000) and a lifetime cap on total rollovers– $35,000 per beneficiary.”
Potential tax ramifications for withdrawals
If you prefer to keep the money in the hands of the recipient but the account hasn’t met the requirements for a Roth IRA rollover, you can withdraw the funds.
“However,” Sparling warned, “all earnings would be subject to income tax and a 10% federal penalty, unless the beneficiary has a qualified exemption.”
Younger children may not understand a non-physical gift
A 529 contribution is a generous gift that doesn’t contribute to clutter and can deliver financial peace-of-mind. But younger children may not understand the advantage of this investment in their future. Coupling 529 paperwork with a small gift, perhaps a book or another educational item, can give the child something to open and treasure, while the parents will appreciate the value of an investment that grows over time.
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