If you have leftover money in your plan and you want to avoid paying taxes and a penalty on your earnings, you have a few options, including:. Remember, you can withdraw leftover money in a plan for any reason. However, the earnings portion of a non-qualified withdrawal will be subject to taxes and a penalty, unless you qualify for one of the exceptions listed above. If you are contemplating a non-qualified distribution, be aware of the rules and possible tactics for reducing taxes owed.
Prepaid tuition plans are another type of qualified tuition program. Prepaid tuition plans let you pre-pay all or part of the costs of an in-state public college education. They may also be converted for use at private and out-of-state colleges.
Most prepaid tuition plans are designed to save for an in-state public college, with the exception of Private College , which is a prepaid plan sponsored by more than private colleges. Educational institutions can offer a prepaid tuition plan but not a college savings plan.
Opening a college savings plan is easy. Direct-sold plans offer lower fees than advisor-sold plans, but the account owner is responsible for selecting the investments.
Advisor-sold plans are only available through licensed financial advisors. Common Questions. What Are Qualified Education Expenses? Unlike education savings plans, which cover a range of educational expenses, these plans can only be used to cover tuition at colleges and universities.
State-based prepaid tuition plans can only be used to pay for institutions within that state. Private College , the only prepaid tuition plan, does not lock the beneficiary into a particular institution or set of institutions.
It turns contributed funds into Tuition Certificates that can be redeemed at any of the participating colleges. Since these plans are not investment accounts, they have much lower associated fees — usually just an enrollment fee.
In general, state-based prepaid tuition plans only allow you to use the funds for tuition — not room and board, books, or other school fees. The Private College Tuition Certificates can be used to cover tuition and mandatory fees. Only four states — Mississippi, Massachusetts, Florida, and Washington — currently provide a full-faith guarantee on the funds in their plans.
Others only guarantee the funds that are currently in the plan, and some provide no guarantees at all. Given the frequency of state budget shortfalls, beneficiaries of state-based plans may have trouble redeeming their tuition as planned.
Beneficiaries of Private College plans can use their Tuition Certificates at any of the participating institutions , but again, given the disparity in tuition rates across those institutions, the funds in the plan may go much further at some colleges than others.
Much like the penalty you pay for using education savings plan funds for non-qualified uses, you will often lose some of your money if you want to use prepaid tuition funds at another set of institutions, but the penalties vary from plan to plan. Private College funds can be switched to a new beneficiary, rolled over into a state-based , or directly refunded. As you can see, education savings plans and prepaid tuition plans are very different, so you should consider your needs, and the needs and goals of your beneficiary, when choosing which approach to take.
Beyond this most basic choice, however, there are many options, especially since there are rarely residency restrictions for state-based plans. As a result, it's really worth it to compare plans. The most important things to consider are the investment approaches offered, the fees and expenses required, and the minimum initial and recurring contributions. Some plans will even waive or reduce fees if you enroll in an automatic contribution plan — including one that deducts directly from your paycheck — or maintain a high balance, so it helps to shop around.
Moreover, while residency may not be required to join most state-based plans, many will exempt residents from state taxes on earnings, waive some fees for residents, or allow you to deduct a portion of your contributions from your state income tax.
Some states offer matching grants to lower- and middle-income residents, and Rhode Island even provides seed money for a to every baby born in the state. Thankfully there are a few tools to help you make an informed decision.
Plus, these special savings plans provide some valuable tax benefits, making them beneficial for the person paying into them as well. A plan comes in two major types: 1 a college savings plan, which allows you to invest money in potentially high-return assets such as stocks, and 2 a prepaid tuition plan, which allows you to purchase part or all of the tuition at an in-state school.
In fact, the process is relatively simple. According to Gorman, parents can open a plan with any provider, regardless of state — but she recommends prioritizing the quality and cost of the plan you choose to invest in first, and then consider any state tax benefits the plan may provide. Every state and the District of Columbia offers a plan.
It is even possible to open multiple plans in multiple states. For example, there may be a state income tax credit only available to residents of the state offering the plan. There are other considerations, too, such as enrollment fees and minimum contribution amounts. A plan broker may also be able to give you assistance. This will likely be your child — but remember, you can change the beneficiary at any time without penalty. In general, anyone can be the beneficiary of a plan; it is not limited to children or any other type of relationship.
The beneficiary must be a U. As long as those requirements are met, there are no restrictions on whose name can be on the plan. In fact, even the person opening the plan can be its beneficiary. Most accounts can be opened online. Once opened, you can deposit funds directly into the account some plans require a minimum deposit for opening. Be sure to keep an eye out for any fees associated with providers and plans; there can be annual fees, account opening fees and percentage fees.
Always read the fine print. The information you will need to open a account may vary by plan. In general though, expect to be asked for details such as social security number or tax ID , date of birth, and address.
You must provide that information for both yourself or the person opening the plan as well as the beneficiary. A plan works much like other types of investment accounts. Thus, you can employ age-based investment strategies, conservative, moderate, or aggressive investment mixes, or a mix or your own funds.
And since these accounts are like other investment accounts in many ways, automatic investments are also an option. Most providers offer both actively and passively managed investments, says Gorman — but she recommends using aged-based funds. That means the funds become more conservative as the date for tapping the funds nears, helping to ensure that you have the money when you need it.
Our opinions are our own. Here is a list of our partners and here's how we make money. The investing information provided on this page is for educational purposes only. NerdWallet does not offer advisory or brokerage services, nor does it recommend or advise investors to buy or sell particular stocks or securities. A plan can be a great way to save for college, if you know the rules and how to optimize your investment.
A plan is a type of savings and investment account in which money grows tax-free as long as the withdrawals are for qualified education expenses. They are named after a section of the IRS code. Investments grow tax-free and can be withdrawn tax-free for educational expenses such as tuition, room and board, and required textbooks.
Read more on plan rules here. Consider looking for direct-sold plans: They are sold directly by the state, rather than through an advisor, which can translate into lower fees for investors. Below are two lists, one for each type of plan, showing direct-sold plans by state. Plan Name. Tax benefit for in-state contributors? Minimum contribution. Alaska ScholarShare DC College Savings Plan. Florida Savings Plan. Path2College Plan.
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