529 Plan

A 529 plan is an education savings account authorized by Section 529 of the tax code and run by states, each of which sponsors its own plan with its own investment menu. You contribute after-tax money, invest it (typically in age-based or index portfolios), and pay no federal tax on growth or on withdrawals used for qualified education expenses. You can use almost any state's plan regardless of where you live or where the student eventually studies, though your own state may offer a tax deduction or credit that makes its plan the default choice. The account owner, usually a parent or grandparent, keeps control; the beneficiary can be changed to another family member at any time.

Qualified expenses have expanded well beyond college tuition. Higher education costs (tuition, fees, books, computers, room and board for students enrolled at least half-time) have long qualified. The One Big Beautiful Bill Act of 2025 raised the K-12 tuition withdrawal cap from $10,000 to $20,000 per year starting in 2026 and broadened K-12 qualified expenses beyond tuition alone. It also made qualified postsecondary credentialing expenses eligible, covering programs like professional licenses, apprenticeships, and industry certifications, including the CFP certification. One caution: some states' definitions of qualified expenses lag federal law, so a withdrawal that is federally tax-free can still trigger state tax or deduction recapture; check your plan's rules.

Overfunding worries have softer edges than they used to. Beneficiaries can be swapped within the family. Scholarships allow penalty-free (though not tax-free) withdrawal of an equivalent amount of earnings. And under SECURE 2.0, up to a lifetime $35,000 can be rolled from a 529 to the beneficiary's Roth IRA, provided the account has been open at least 15 years, the rollovers fit within each year's Roth IRA contribution limit, the beneficiary has earned income, and contributions from the most recent five years stay put. Nonqualified withdrawals tax the earnings portion as ordinary income plus a 10% penalty; the contribution portion always comes back untaxed.

A hypothetical example: Dana opens a 529 for her newborn and superfunds it. The five-year gift election lets her treat one large contribution as if it were spread over five years of annual gift-tax exclusions; at the 2025 exclusion of $19,000, that is up to $95,000 at once ($190,000 from a married couple) with no gift-tax consequences, reported on a gift-tax return (Form 709). She invests in a low-cost index portfolio and adds nothing further.

Suppose the account grows to a value well above her contributions by freshman year. Every dollar of that growth escapes federal tax when spent on tuition, fees, books, and room and board. If her daughter later has money left over, Dana can redirect it to another family member, hold it for graduate school or a professional credential, or begin the 529-to-Roth rollover once the SECURE 2.0 conditions are met. Figures are illustrative, not projections.

Pros

• Federal tax-free growth and withdrawals for a broad and expanding list of education expenses.
• State deductions or credits in many states add an immediate return on contributions.
• High contribution capacity and superfunding make it the main tool for large education goals and grandparent gifting.
• Escape hatches for overfunding: beneficiary changes, the scholarship exception, and the $35,000 lifetime Roth rollover.

Cons

• Nonqualified withdrawals tax earnings as ordinary income plus a 10% penalty, so heavy overfunding still has a cost.
• Investment menus are limited to what the plan offers, and some plans carry high fees.
• State tax treatment doesn't always match federal law, especially for K-12 and credential withdrawals.
• Accounts owned by third parties can interact with financial aid formulas in ways worth checking before withdrawal timing is set.