- Saving for college is one of the first things that come to mind for joyful new grandparents these days.
- UTMAs, 529 plans and irrevocable gift trusts can be excellent, tax-advantaged ways to fund a child’s or grandchild’s education.
- Remember, some trusts and gifts automatically transfer to the child at age 21. You may not be able to control what he or she does with all the money that’s accumulated. Consult your advisor.
You know, there is nothing like listening to the joy of first-time grandparents talking about a new grandchild. It’s a very exciting time for them. And with that joy, it doesn’t take long for proud grandparents to broach the subject of paying for that wonderful new grandchild’s college education.
There are three important rules about funding higher education:
- You can spend appropriate amounts of money on a child who is a dependent—raising that child and satisfying his or her needs and wants.
- You can gift $14,000 per year per person to that child. So if you’re a married couple, you annually can give $28,000 (combined) to that grandchild.
- There are exceptions for medical needs and education, for which you can make appropriate direct payments.
There are four ways to do this gifting:
- Directly to that child in a variety of forms.
- Through 529 college savings plans.
- Through irrevocable gift trusts.
- By paying tuition bills directly and specifically to the college.
Direct gifts. Many of you will set up what’s called an UTMA—Uniform Transfers to Minors Act—account. It’s an account that you set up as a custodian for that grandchild. UTMAs allow you to contribute up to $28,000 (if you’re a married couple) or $14,000 (if you’re single) per year. You can invest the funds wherever you like, and you can keep funding until the child reaches age 21. However, UTMAs will subject you to the “kiddie tax” even though in most states, including Illinois, ownership of the account goes to the child. That means the child can do anything he or she pleases with the money once the child no longer is a minor.
529 college savings plans are very popular. Most states sponsor them, though you don’t have to invest in your home state’s plan. While 529s do have a lifetime contribution limit, the cap is pretty high and beyond what most folks will end up contributing. Again, couples can sock away up to $28,000 ($14,000 for singles) into 529s each year, and the account grows tax-deferred. When a child is ready for higher education, the funds can be taken out on a tax-free basis for qualified educational expenses. The downside is you don’t know what kind of school the child will attend, so it’s hard to predict how much you’ll need to save for tuition.
Irrevocable gift trusts. These types of trusts, which you set up with your own trustee, are highly flexible and can fund absolutely anything. If you’re a couple, you can put in up to $28,000 a year for as long as you like. Irrevocable trusts can be directed to college tuition, a down payment on a house, starting or buying a business—anything you want. The downside is that you pay taxes every year on irrevocable trusts, since they’re taxable entities. The other downside is that as the name implies, they’re irrevocable,so unlike with a 529 plan, you are not going to get back the money that you’ve set aside in the trust.
Direct payments to college. As the tuition bills come in, you pay them on time and in full. The downside is that many folks don’t have the cash flow, the savings or the liquidity to afford this option.
Since saving for higher education is such a complex and important decision, we’re happy to offer you a complimentary consultation to help you think through these and other ways of funding the education of your high-striving child or wonderful new grandchild. Call or visit us any time.
For additional information on 529 Plans, check out the IRS website.
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