A 529 Plan is a tax advantaged way to save for the college costs facing your children or grandchildren. It’s named after a section of the Internal Revenue Code. Withdrawals made from 529 plans for qualified education expenses are free of federal income taxes. And there can be state tax advantages as well.
With the cost of college soaring, it’s little wonder that 529 plans have become very popular. The College Savings Plans Network reports that more than $227 billion is invested in 529 plans across the country.
More and more grandparents are using 529 plans to set aside some of their wealth to help finance college for their grandchildren. According to a 2013 survey 14% of 529 plan investors are grandparents.
Pennsylvania offers particularly strong tax support for grandparents who want to save for their grandchildren educations by contributing to 529 plan accounts. But the deduction rules can be tricky, especially for married couples.
Recently, the Pennsylvania Department of Revenue updated its online clarification of the deductibility rules for contributions to 529 college plans. Here is the Department’s 06/18/2014 update:
Could you please clarify the new deductibility rules for contributions to 529 college plans? Specifically, what is the limit per beneficiary per year? And for a married couple, does that mean each spouse may deduct up to the maximum contribution amount per beneficiary per year, or is it only the maximum contribution amount per couple per beneficiary per year? If it's a total of the maximum contribution amount per couple per beneficiary per year, does it matter if, say, one spouse contributes a larger portion of the maximum contribution amount and the other spouse contributes the other smaller portion? (I'm referring to state tax rules, of course, not the federal.)
For tax years 2006, 2007 and 2008, the maximum contribution limitation was $12,000 per beneficiary, per taxpayer, per year, up to the amount of taxable income (if less than the $12,000 per beneficiary, per taxpayer limit).
For tax years 2009, 2010, 2011 and 2012, the maximum contribution limitation was $13,000 per beneficiary, per taxpayer, per year, up to the amount of taxable income (if less than the $13,000 per beneficiary, per taxpayer limit).
For tax years beginning on or after Jan. 1, 2013, the maximum contribution limitation has increased to $14,000 per beneficiary, per taxpayer, per year, up to the amount of taxable income. A married couple, who could previously contribute $12,000 or $13,000 each per beneficiary, per year as long as there was sufficient taxable income for each spouse may now contribute $14,000 for each beneficiary. Where the married couple with one beneficiary could contribute up to a total of $24,000 or $26,000, a married couple with one beneficiary may now contribute a total of $28,000. Each may contribute up to $14,000 (limited by the amount of taxable income) per beneficiary.
For example, if one spouse had taxable income of $19,000 and the other only $9,000, the contribution deduction for a one beneficiary contribution scenario on a joint return would be limited to $23,000 (a $14,000 deduction for the spouse with $19,000 of income and a $9,000 deduction for the spouse with $9,000 of income). If each spouse had taxable income in excess of $14,000 and one spouse contributed $19,000 and the other spouse contributed $9,000, the maximum deduction the couple could take on a joint return is limited to $23,000 (a $14,000 deduction for the spouse who made the $19,000 contribution and $9,000 contribution for the spouse who made the $9,000 contribution) for a one beneficiary contribution scenario.
Note that a grandparent can make a contribution on behalf of a beneficiary and take the deduction even if the beneficiary’s parents make maximum contributions of $14,000 each. The contribution limit is determined on a taxpayer by taxpayer basis. Not a beneficiary by beneficiary basis. See: http://tinyurl.com/pc96b47.
Many states and the District of Columbia offer a deduction or state tax income tax credit for contributions to an in-state plan. Pennsylvania goes a step further and gives you the income tax deduction even if you use an out-of-state 529 plan. (For considerations on whether to use and in-state or out of state plan see The 529 question: In-state or out-of-state?, but note that the article is relatively old – from 2008).
Potential bonus: Pennsylvania State Treasurer Rob McCord has noted that 529 Plan accounts owned by grandparents are NOT subject to Pennsylvania Inheritance tax. See, http://tinyurl.com/nrhhsvr.