Thank you America for preventing President Obama from trying to do away with 529 plans – The surest way to get people talking about something is try to take it away from them. Despite the media circus, the fact remains 529 plans should be especially attractive to entrepreneurs. Entrepreneurs are a different breed, we don’t get a normal paycheck from which we can budget our life – if a piece of equipment goes down the entrepreneur is on the hook to keep their business fed as much as their family. Thus any way to improve savings for entrepreneurs is doubly important. Beyond being THE education savings vehicle, 529 plans serve up a terrific blend of features on which entrepreneurs can feast: reduce taxes, daily access to your money, protection from creditors while being exempt from estate taxes. That’s a lot to sink your teeth into. Here is more detail on each of these savory pieces to the 529 plan.
Reduce taxes
-) 529’s grows tax Preferred – obviously money can be withdrawn tax free for qualified education expenses, BUT if you pull money out of a 529 for something other than education expenses, say a broken generator for your shop the whole withdrawal is not taxed or penalized. The percentage of account value that is profit is the percentage of the money withdrawn that is taxable. Here’s an example: say you invested $50k into a 529 plan that has grown to $75k. One-third of the account value is profit. So if you pulled out $30k for an urgent purchase of piece of equipment or family emergency let’s say, only one-third of the $30k is taxable, plus a 10% penalty ( since not for education) on the one-third: so income taxes on 10k plus $1k penalty. BUT…. with some 529’s you can designate to whom the check is made payable so you can make the check payable to the owner (e.g. you) or the beneficiary (e.g. your child). The income taxes are assessed at the recipient’s (distributee’s) tax rate in these cases. So if I make the check payable to my child using my example above , the $10k taxable amount is at my child’s tax rate and not mine.
-) State Income Deductions – Currently 34 states allow residents who contribute to their state’s 529 plan to deduct some or all of an owner’s annual 529 contributions from his or her taxable state (not Federal) income. This applies per owner per beneficiary so if you file jointly and have one child you can each set up a 529 for the child and fund it.
Daily access to your money
Any day the US stock markets are open you can liquidate some or all of your 529 by simply calling your financial advisor or the 529 plan directly and requesting the amount desired. Money can be sent via wire, overnight check or regular mail to your bank account. So when then urgent need for emergency cash hits your business, voila, you can access your 529 in a crunch. Remember ‘for emergency’ is the key here, 529 plans do not serve as a cash-flow alternative account for a myriad of reasons – there are much better solutions for that.
Creditor protection
Money in a 529 is protected from bankruptcy 2 years after it is invested into a 529 by Federal law. The amount of asset protection beyond bankruptcy (e.g. lawsuit) varies by state – for example FL broadly protects 529 balances whereas NJ offers protection for claims against beneficiaries but not owners – so check with an asset protection attorney for the specifics of your situation.
Exempt from Estate
Money in a 529 is no longer part of your taxable estate even though you still access the money and can decide how to allocate it. Remember the Beneficiary of a 529 has no right, claim or access to the 529 monies; they are only the ‘beneficiary” of education tax benefit. 529’s have successor and contingent successor owners that inherit the 529 when the owner dies. When the owner dies the 529 account passes to the successor owner void of estate or income taxes – like an annuity, there is no stepped-up cost basis at death for 529 plans to the successor owner so withdrawals work the same way for the successor as the original owner as discussed above. Beneficiaries can be changed by the owner anytime but be sure to keep it in the family (besides immediate family this can first cousins, nieces/nephews even aunts and uncles) and change beneficiaries within the same generation – there can be tax consequences otherwise.
Retirement Dream
Unlike my mother-in-law, I pile on the meat when I make a sandwich (love ya Barbara). So consider this the extra bacon without the fat – Sure they can be withdrawn tax free for qualified expenses for accredited universities, colleges, trade and technical schools (not elementary or secondary schools) but they’re not just for making your dreams of an education for your kids or grandkids come true – they can help you achieve your retirement dream too. A great lifestyle coach I know said entrepreneurs don’t retire they rewire. Maybe it’s culinary school, under water salvage, nursing or becoming a golf coach… they can be your tax free gateway to your “next career”. For example I had a client that set up a 529 later in life with his wife as owner and he as beneficiary which we used to pay for his education at a federally accredited golf academy in Orlando which included tuition, room and a new set of clubs (required school equipment) for the program. Visit www.savingforcollege.com for a Federal School Code Lookup to check if a school is eligible – a school needs to participate in Title IV federal financial aid programs to qualify for the tax free withdrawal from a 529.
At the end of the day, beyond being THE education savings vehicle, 529’s provide a terrific blend of ancillary features for entrepreneurs: a savings vehicle that can reduce taxes with daily access to your money, protection from creditors while being exempt from estate taxes. The handful of points above are some of the reasons why 529 plans allow you to feed your family and your business plus maybe a dream for you on the side.
The above article does not constitute tax advice. Tax matters can be complicated and taxpayers should consult with their tax or legal advisor for your specific need.
JPT021115-225
Before investing, the investor should consider whether the investor’s or beneficiary’s home state offers any state tax or other benefits available only from that state’s 529 Plan.