529 Plan qualified higher education expenses
Using a 529 plan to save for college expenses can be highly beneficial. There are however some tricks on how and when you can use your 529 plan funds for college expenses.
Most importantly, you need to use your 529 plan funds for Qualified Higher Education Expenses (otherwise known as QHEE’s) only. Let’s recap what a 529 plan is.
A 529 plan is a college savings plan similar to a Roth IRA (however there are no income limits). You don’t get a tax deduction for the contributions but your funds will grow tax-deferred and can be withdrawn tax-free provided you meet certain requirements. Should you fail to meet those requirements, your withdrawals will be subject to regular taxes plus a 10% penalty on the growth portion of the distribution.
Principal amounts withdrawn are never subject to taxation, only the growth of any withdrawals used for non-QHEEs. The IRS imposes restrictions on what you can spend your 529 plan funds on. Failing to spend your 529 plan funds on NON-Qualified Higher Education Expenses is the biggest potential mistake you could make. 529 plan distributions for NON-QHEE’s can result in unnecessary taxes and penalties.
529 Plan Qualified Higher Education Expenses include things such as:
- Tuition
- Fees
- Books
- Other student fees required as a condition of enrollment
- Housing expenses
- Room and board is limited to the schools “cost of attendance” figures for federal financial aid purposes (provided you’re attending school at least half-time)
- School expenses for on-campus owned dormitories are fully covered
- Computer (ONLY if the college requires students to have their own)
Here are a few things to keep in mind when using a 529 plan for college saving – and ultimately college expenses.
NON-qualified higher education expenses
You MUST know what you can – and cannot – spend your 529 plan funds on.
You can’t deduct insurance costs, club fees, activity fees, or other things which are NOT a condition of enrollment. Qualified Higher Education Expenses are limited to things which are required to attend and complete college only. A good rule of thumb is “is the expense absolutely necessary to complete my education?” If it’s not absolutely necessary, chances are it’s not a Qualified Higher Education Expense.
Separate expenses when incurred
It’s important to separate expenses for purposes of “necessary” and non-essential. For example, at the bookstore pay for your gum and soda separate from your textbooks. You cannot use gum and soda for Qualified Higher Education Expenses, but you can use the cost of your textbooks.
Transfer funds directly from the plan to the school
It’s a “best practice” to transfer funds directly from your 529 plan account to the school to pay for Qualified Higher Education Expenses whenever possible. This simplifies the process and illustrates the funds are being used appropriately without you having to got the extra mile to prove it as such. It’s also very important to note that expenses are for the calendar year, NOT the school year. Whatever expenses you incur today must be withdrawn or claimed from your 529 plan account in this current calendar year.
Keep extra good QHEE records!
If you can’t prove your Qualified Higher Education Expenses qualified, you may end up with a non-qualified distribution subject to taxes and penalties on the growth. A best practice would be to scan your QHEE receipts into a file folder labeled first by school year, second by the type of expense category it falls into (for example 2015/tuition or 2015/books).
The tax-deferred growth of a 529 plan is a big benefit for college savings, in fact, there isn’t anything that can beat it for pure college savings. Just remember to play by the rules, don’t overfund the account (if anything save towards your minimum potential college qualified higher education expenses) and you’ll end up ahead in the long run.