For many parents, the spring semester of their child’s senior year of high school is all about college planning. And those with a fat 529 account set aside for Junior’s education might be feeling nothing but excitement for the next chapter in their child’s life. But what if your child drops the bomb that he wants to work for a few years or join the military instead of going to college? What can you do with the money you have carefully set aside for his education?
Just withdrawing the money might not be the best idea. Using the funds for anything other than qualified education expenses means that you pay taxes at your rate on the earnings (which would otherwise be tax-free) plus a 10% penalty. Here are some options for that unused 529 account depending on which circumstances you face:
1. Your child earned a full scholarship. Congratulations! You have a couple of options available to you in this scenario. You may roll the account over to another family member within the same generation. The plan defines a family member as any of the following: “the original beneficiary’s spouse, children, sisters, brothers, nephews, nieces, first cousins, and any spouses of those persons.” So even if you know that Junior’s little sister is also likely to earn a major scholarship, you have plenty of family to choose from in terms of passing the money along.
It is important to note, however, that if the beneficiary is of another generation (i.e., a child of the original beneficiary), then there could a gift tax liability on the rollover. If you are going to make an inter-generational beneficiary change, make sure you talk to your financial adviser about the best course of action.
If rolling over the 529 isn’t a possibility, you can also cash out your account with no penalty other than the tax paid on earnings.
2. Your child doesn’t want to go to college right now. 18 is awfully young to know for sure what you want to do with your life. Some kids benefit from a few years of working and learning about themselves before going to college. If your child wants to hold off for a few years—but definitely wants to go to college eventually—then you can just sit tight on your 529 account. Most states do not impose an age or time limit for use of the money. (Some do, so it is important to know which plan you have). No age limit is one of the reasons why 529 plans are more flexible than Coverdell ESAs.
Your funds will continue to grow—without being taxed—until your child is ready for school.
3. Your child doesn’t want to go to college at all. While education can really help your child to grow his career, it certainly isn’t for everyone. If Junior has decided to go in a different direction and is absolutely certain that he won’t change his mind, you can roll the plan over to another beneficiary.
4. You saved too much. If only we all had this problem! But if you did save more in your 529 account than your child needs in order to get her education, you can leave the money in there for graduate school, if your child decides to continue her schooling, or can roll over the funds to another beneficiary.
5. Your child is unable to go to college. If your child becomes disabled or passes away before beginning his higher education, the money can be cashed out with no penalty other than the tax on earnings.
Finally, when it comes to 529 plans, remember that the definition of qualified education costs includes such things as tuition, room, board, transportation, books, and even necessary equipment like laptops. There are plenty of opportunities to use that money for qualified expenses.
Photo credit: Alla_G