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529 Plans: What You Need to Know About College Savings Plans in 2023

529 Plan MN

Shortly after our children were born, we started 529 plans to get a head start on college savings. Before they could walk or talk, these lucky kids had thousands of dollars invested in a tax-advantaged account with many years for that money to compound before they might need it.

I say “lucky” because the vast majority of kids don’t have a 529 plan. Greater than 97% of families in the United States don’t use them, which is a shame, because these accounts are an excellent way to pre-fund at least a portion of a child’s future education.

There are the tax advantages that we’ll detail, the flexibility that can be useful, and the benefit of earmarking money solely for education in an account that you won’t be tempted to use in any other way.

With those advantages come some potential disadvantages, and we’ll cover those, too. I’ll also highlight some of the best plans available, discuss why you may or may not want to use your own state’s plan, and share the reasons that you probably don’t want to fund all your child’s education via a 529 plan.


529 Plans: What You Need to Know About College Savings


Established in 1996, this “qualified tuition program” is based on section 529 of the Internal Revenue code, hence the term “529 plan.”

They come in two varieties, but the most common is a savings plan, which is essentially an investment account with a current or future student named as the beneficiary.

The other flavor is a prepaid tuition plan, which is currently an option in FL, IL, MD, MA, MI, NV, PA, TX, VA, and WA. With these plans, you typically pay for tuition at the current rate and the beneficiary will have their tuition covered later on regardless of the cost at the time.

Personally, I prefer the flexibility of the savings plans, as the money can be applied to any of many thousands of schools nationwide (and some internationally, as well). The prepaid plans may allow you to use the money at a different institution, but the rules vary by plan and you may not get the best value if you choose a different school.

However, there may be a case for prepaid tuition. If you live in Ann Arbor, bleed maize and blue, and the previous five generations of your family are proud Wolverines, you might want to consider the MET, Michigan’s version of a prepaid tuition plan (and the first 529 plan) for your child. When our kids were born in Michigan, we chose the MESP, the Michigan Education Savings Program, which is a good thing because my kids bleed maroon and gold.


529 Plan MN
dad bleeds maroon & gold, too


Tax Savings from 529 Plans


The tax treatment at the federal level is the same no matter which plan you select. You invest with post-tax money and your invested money will grow tax-free. If used for qualifying educational expenses, there will be no taxes levied on the withdrawals.

Qualifying expenses include tuition, fees, books, computers used for education (not gaming), and room and board up to the amount determined by the institution as part of the cost of attendance.

Ineligible are things like health insurance, transportation, or student loan payments.

In addition to the tax-free growth, most states offer a tax break of some sort on your state income taxes. States that don’t levy a state income tax (AK, FL, NV, NH, SD, TN, TX, WA, and WY) obviously cannot give you a state tax deduction or credit.

Most states offer a deduction, but some offer a partial tax credit if you have low income. CO, IL, MN, UT, and VT offer credits of 5% to 50% and most (but not all) other states offer a tax deduction, and many of those require you to invest in the plan of the state you reside in.

If your state is like most and offers a tax deduction rather than a credit, there is a wide variety of benefits with some being generous and others minuscule.

Some states place a limit on the deduction per beneficiary, and some have a deduction limit per household, and it’s common for couples to get double the limit as an individual. Oregon’s limit for a deduction is under $5,000. Minnesota’s in only $3,000 (but is a 50% credit if you have an AGI under $75,000). A few states like IL, MS, and OK will give you a deduction on up to $20,000 per year per couple.

You can look up the specific rules in your state here.



The Tax Penalty on 529 Plans When Not Used for Education


As I mentioned, there are some downsides. One is the tax penalty you will be on the hook for if you withdraw money to buy a new hot tub instead of a liberal arts degree.

The penalty is only applied to the earnings. For example, if you invested $100,000 and the plan grew to $200,000, which you withdrew completely to fund your travel habit because Johnny’s more interested in his grunge tribute band than Logic 1001, you’d pay the penalty on $100,000 of the withdrawal.

You’ll owe a 10% penalty plus income tax on the money when used for non-eligible purchases. Depending on your income bracket and how much of the money in the account is earnings versus basis, that could add up to a tidy sum.

Fortunately, there are options to use the money for other people, including yourself, in creative ways, so you shouldn’t have to pay this potentially severe penalty.

This would be a good time to point out that you should only invest in a 529 plan if you’re also taking care of your own retirement. Loans can be taken out for school, but they don’t work well at all for funding your own retirement.


Using a 529 Plan for K-12 Private and Parochial Education


Starting in 2018, money in 529 Plans became eligible to be used for Kindergarten, Elementary School, and High School costs. Up to $10,000 per year can be taken from a 529 plan to pay for private schooling.

Note that not as many states will give you a state income tax break when using 529 plans on K-12 education, and currently only these 21 states do.

If you’re considering doing so, you may want to run the numbers. Note that if you contribute and withdraw $10,000 from a 529 plan, the money that went round-trip may not be eligible for a deduction at all.

California has gone so far as to impose a 2.5% tax on earnings when money is withdrawn for K-12 education, so you’ll want to take a good look at your own state’s rules before employing a 529 strategy as part of a plan to fund a private school K-12 education.


529 Plans and Financial Aid


If you’ve been a diligent 529 saver and your child qualifies for a merit-based scholarship, what then? There are likely some eligible expenses that won’t be covered by the scholarship, and you can withdraw 529 funds tax-free for those.

Furthermore, you can withdraw an amount equal to the value of the scholarship without having to pay the 10% penalty. Taxes will be due on the earnings, however, so if you’ve done well with the investments in the plan, this may not be a smart option.

Regarding need-based financial aid, 529 plans are considered when applying for aid and will be reported on the FAFSA. The presence of money in a 529 account predictably, and one could argue rightfully, reduces the financial need of a student.

That last point is another drawback of a 529 plan, although most people who choose to fund these plans are in a financial position that will likely exclude their children from any serious need-based financial aid. A notable exception is a child whose 529 plan is being funded by a wealthy relative or friend of the family in a case where the parents have little means.


Who Can Open a 529 Plan?



You don’t have to be a parent to open a 529 Plan on another’s behalf. In fact, you can be a non-parent and open one on anyone’s behalf, including your own, as long as you’re a U.S. taxpayer.

Why would you want to name yourself as a beneficiary?

The most common reason would be that you plan to have children, and want to get a head start on their college savings. You can name yourself as the beneficiary, and change it later on when you’ve made some babies. Miss Bonnie MD did this, opening an account for her son before he was born.


529 Utilization


How many of these eligible taxpayers are taking advantage of 529 plans? As I mentioned in the intro, very few.

According to the most recent data published by the Federal Reserve, only 2.5% of U.S. households had a 529 account in 2013, down from 3.1% in 2007. For those with income below the 50th percentile, it was only 0.3%.

Nearly 8% of households with income at the 90th to 95th percentile had one, and 16% of the 5%ers in the 95th to 100th percentile of income were using one.

The average balance reported across all income levels was about $56,000, but, like income data, the mean was skewed by those at the very top. The average balance for the bottom 95% was in the $25,000 to $33,0000 range, while the highest income households had an average balance of about $120,000.

The numbers are even more skewed when households are broken down by wealth. The average balance of a 529 plan in households with wealth under the 50th percentile was just $3,800, whereas the wealthiest 5% have an average balance of $152,300.


Superfunding a 529 Plan


Some of those wealthiest households may have contributed the bulk of that balance in one fell swoop. In a move sometimes called “superfunding,” a couple can contribute up to $160,000 to a child’s 529 plan without affecting their gift tax.

The way the gift tax works is that, normally, the amount of any gift of over $17,000 per person to another individual in 2023 ($34,000 as a couple) results in a lowering of one’s estate tax exclusion.


For example, if my wife and I give someone $154,000 to buy a tricked out used Lamborghini (we don’t like anyone that much), and if our estate was someday worth more than the current 2022 estate tax exclusion of $24.12 Million, our exclusion would be “only” $24 Million. We can give $17,000 each with no consequence, but we went over that by $120,000, and so our lifetime estate tax exclusion would be reduced by $120,000.

In this example, any money inherited by our heirs in excess of $24 Million would be subject to federal estate tax. It’s a very first-world problem and unlikely to be an issue for the vast majority of us, but it’s the reason this superfunding loophole of sorts exists.

A contribution to a 529 Plan is considered a gift, and therefore, one would normally be limited to annual per-recipient gifts of $17,000 as an individual or $34,000 as a couple. However, with 529 plans, you’re allowed to give five years’ worth of gifts at once.

As such, an individual can put $85,000 into each kid’s 529 plan and a couple can put up to $170,000 in at once. If you do this, any contributions in the following 5 years would affect your gift tax exclusion, so if you think you can afford this option, you might as well go all in and give to the max.

Reasons not to superfund a 529 include not having a swimming pool full of cash or living in a state that gives you a tax deduction up to a certain amount each year. It’s probably best to space out your giving in those instances.

However, if you are figuratively or literally swimming in cash and live in a state with either no state income tax or no state tax deduction offered for 529 contributions, superfunding could be a legitimate consideration.


How Much Can You Contribute to a 529 Plan?


Like the answer to most of these questions, it depends on where you live. Every state has a cap at which the account will no longer accept contributions. It can be as low as $235,000 as it is in GA, MS, and TN, or as high as $500,000 or more, as it is in D.C., LA, MI, NH, NM, NY, PA, SC, VA, and WA.

These limits will vary as laws change, and some are tied to inflation, so be sure to check the latest cap for your state. I’ve found Saving for College to be an excellent resource for up-to-date data on 529 Plans.

Note that the 529 plans can grow to be larger than these limits, but you cannot continue to contribute once the cap has been reached.


How Much Should You Contribute to a 529 Plan?


It’s a common question, and I don’t have a great answer. Stop me if you’ve heard this one before, but personal finance is personal. The correct answer will depend on many factors specific to the needs and wants of both you and your children (or other beneficiaries).

We’ve chosen to fund our kids’ plans rather aggressively, knowing for the last few years that my high-income years could be coming to an end. They don’t know it yet, but our boys each have just over $100,000 in their 529 plans, we’re not done contributing, and they won’t be of typical college age for another 8 to 10 years.


What should you do?


Factors that Suggest Contributing Generously to a 529 plan:

  • Private K-12 schooling
  • A desire for private college or university (or out-of-state public without reciprocity)
  • Beneficiary unlikely to receive an academic or athletic scholarship
  • A high likelihood of graduate or professional school
  • Parents earn too much or have too many assets to qualify for need-based aid
  • You can easily afford it after prioritizing funding your own retirement
  • A desire for multi-generational college funding
  • An interest in your own life-long education


Factors that Suggest Contributing Meagerly to a 529 plan:

  • Child (or recipient) is not “college material.”
  • Public schooling for K-12
  • A desire for an in-state public college or university (or out-of-state with reciprocity)
  • Recipient is likely to qualify for academic or athletic scholarships
  • Recipient will likely complete high school with substantial college credits
  • Need-based financial aid is likely
  • You are unable to max out your own tax-advantaged retirement accounts
  • You prefer an alternative method for college funding


What To Do With Leftover 529 Money


If you find yourself among the tiny percentage of Americans who not only contribute to a 529 plan (remember only 2.5% of households do this at all), but end up overcontributing, you’ve got some viable options for those stray dollars.

There is the option to withdraw the money and pay the 10% penalty and income taxes on the earnings. This is not a great option, but if you need the cash, it’s the one that will put the most money in your pocket.

However, you probably don’t need the money if you were in a position to overfund a 529 account in the first place. In this case, you will look for someone else who might be able to use the money. That could be a sibling of the beneficiary, a first cousin, or even a future child of the beneficiary. Some people like to call them Grandchildren (assuming your child was the initial beneficiary).

Just imagine what two to three decades of tax-free compounding could do for that 529 balance if your college-aged offspring don’t need the money.

You might also find the most appropriate beneficiary in the mirror. How would you feel about paying for room, board, tuition in fees in one of five eligible schools in Paris, France? You’ll find hundred of eligible international schools here. There are also two dozen U.S. culinary schools that might be fun to try.

Bon appétit!


What’s the Best 529 Plan?


If your state offers a tax break for contributing to your own state’s plan, the best plan is almost certainly your own state’s plan.

On the other hand, if there is no state tax incentive to contribute to your own state’s plan (or any plan), you might as well choose a plan that has the best investment options. Generally, that means having a reasonably broad range of low-cost investment options. The cap at which contributions must cease may also be a consideration; the higher, the better.

I’m not going to make a judgment call here, but plans that fit the bill and are frequently mentioned in the “Best of” lists include CA, NV, NY, UT, AZ, DE, MA, NH, MI, and probably a couple others. Any of these plans will offer a range of index funds with expense ratios under 0.20%.

Personally, I think there’s no good reason to consider an advisor-sold plan. You can choose your investment(s) directly and save some money. Many states have a “target date” option that becomes more conservative as the beneficiary approaches college age.

Whether or not such a plan makes sense for you depends on your risk tolerance, how dependent you are on those particular dollars fully funding education, and your interest in multi-generational funding. We’ve chosen to invest aggressively in stock-based funds and plan to remain invested that way until the money’s gone or we’re blessed with leftovers for another generation.


529 Plans as an Estate Planning Tool


Like I said, most of us will not need to worry about bumping into an estate tax issue, at least not if the exemption remains near its current level, but there’s a chance some of us will. The estate tax exemption could return to previous levels in the range of $5 Million like we had in the early 2010s.

Consider an example where the estate tax exemption for an individual is $5 Million. The matriarch of the fortune was never married, and she’s stricken with a terminal illness with a net worth in the range of $6.5 Million.

Money in 529 plans will not be subject to the estate tax. Suppose the cannabis-infused energy drink baroness has 20 grandchildren under the age of 18. She could superfund a 529 plan for each of the 20 future heirs and heiresses with $750,000 and reduce her taxable estate to $5 Million, eliminating the possibility of paying hefty taxes on that $1.5 Million of her estate.


Why You Should Not Plan to Pay for College Completely with a 529 Plan


If you’ve got kids in college and income (specifically, modified adjusted gross income (MAGI)) under $160,000 as a couple, you would be a fool to cover all of your child’s education costs via a 529 plan.

Why? The American Opportunity Tax Credit (AOTC) is why.

If your income qualifies — it phases out over $80,000 to $90,000 as an individual or $160,000 to $180,000 as a couple — you would be forgoing free government cheese.

The AOTC gives you a full tax credit on the first $2,000 paid toward college expenses for your dependent each of the first four years. For every dollar you put in in the first $2,000, your tax liability is lowered by a dollar. That’s free money.

The AOTC also gives a 25% credit for the next $2,000. That’s a total of a $2,500 tax credit if you chip in $4,000 from your checkbook rather than a 529 plan.

If your income is in the range that qualifies, you should absolutely pay for the first $4,000 out of pocket before tapping a 529 plan. If your salary puts your MAGI over $180,000 (or $90,000 for single filers), then it doesn’t much matter. But it does make early retirement a little more enticing, doesn’t it?


529 Plan Alternatives


No discussion of 529 plans would be complete without a discussion of the alternatives to college funding in this manner.

I’ve heard people talk about investing in Roth IRA accounts to pay for college. After all, you can pull Roth contributions out tax-free and penalty-free as long as you’ve had a Roth IRA for 5 years or more.

I would not recommend this option. There’s only so much money you can get into Roth, and it’s very valuable there. Leave it be for as long as possible.

You can also invest in a plain old taxable brokerage account. There are no restrictions on how the money is used and tax drag can be minimized. If you don’t benefit from a state income tax deduction on 529 contributions, the upside of the flexibility here may outweigh the potential drawbacks of the limitations imposed on 529 money. Money is fungible, so money in a taxable account can be used to pay for college or anything else.

Another plan outlined is to buy one rental property and use the proceeds to pay for college. Bonus points if the property is next to a college campus that your child ends up attending and actually lives there.

I think this is a decent option if you’re going to be investing in rental real estate, anyway, but I don’t see it as a substitute for investing in a 529 plan. Again, money is fungible, so only choose this option if you like real estate as a primary investment vehicle.

Finally, there are Coverdell ESA accounts which can be used as a supplement to a 529 plan. They’re not a replacement, because the annual tax-advantaged investment amount is only $2,000 a year.

Furthermore, there’s a phase out that starts at $220,000. They also must be used up or rolled over by the time the beneficiary turns 30, whereas 529 plans have no such age limit. There is no state tax deduction for contributions to them. I’m not a fan and don’t use them, but I mention them because they still exist and The White Coat Investor published a Pro / Con piece on them (he landed squarely on Con).


The 529 Plan: What You Need to Know


By now, I hope you’ve learned much of what you need to know. In summary, the 529 plan is an investment account that offers everyone the advantage of tax-free growth and many the benefit of a state income tax reduction as long as the money is used for education when withdrawn.

A small minority of households use them, and I feel they’re woefully underutilized. Student loan debt is crippling and our graduates are leaving school with ever-increasing levels of debt. If we can afford to do so, we should do what we can to ease that burden from our loved ones in the next generation.

Be sure to take care of your own retirement before you fund someone else’s schooling, even if it is your own children we’re talking about. No bank that hopes to remain solvent is going to underwrite a retirement loan.

Finally, be sure to understand the advantages and potential disadvantages of funding a 529 plan in the state in which you live. Every time you cross a border, the rules and numbers can change.

The average indebted medical student graduated with about $200,000 in debt in 2018, and that debt level tends to grow throughout residency and fellowship. It’s not uncommon for undergrads to matriculate with a six-figure student loan debt that can stick with them for decades.

Think about that when you debate whether or not to open a 529 plan for someone you care about.

Have you opened a 529 plan yet? Are you funding one for your own children, someone else’s children, or even yourself? I’d love to hear your perspective on 529 plans.


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64 thoughts on “529 Plans: What You Need to Know About College Savings Plans in 2023”

  1. Hello

    I have read most of your posts and I am getting through a few of your books. I love the insight and knowledge your books have provided.
    I had a few questions about the secure act 2.0 that I was not able to find in your books.

    Lets say I name myself the beneficiary of a 529 and I only put in a small amount and then I add money in slowly over time. If I have the IRA for a total of 15 years then can I convert it to a Roth IRA without a tax penalty provided it is less 35K and subject to the yearly limits of a Roth IRA. I am wondering if I can also change the beneficiary and convert some of the amount for myself in Roth and some in a Roth for a dependent. I understand that either party (dependent or myself) would need to have earned income the year that the money was put in (I assume earned income does not come from 401k distributions when I in my 60’s). Is this is a good strategy or would you go with the brokerage?

    Thank you again

    • I haven’t written any books, but plenty of blog posts.

      To answer the question, you could do that, but my understanding is that the Roth conversion of the 529 replaces the contribution you can make, so to convert the $35k would take 5-6 years depending on age and you wouldn’t be able to make contributions in the years you’re converting.


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  11. PoF, do you include your 529 plans in your portfolio tracker, when rebalancing, or include them when estimating your net worth? Thanks for the info!

    • I do include them in our net worth, but not for purposes of our retirement portfolio or rebalancing, since that money has a specific and different purpose.


  12. Hey POF

    When you say you don’t recommend an advisor-based plan, why is that? I don’t have any state tax benefits and have therefore chosen to go with Vanguard (for simplicity, since that’s where the rest of my retirement money is) in a couple of low-exp-ratio index funds. Why wouldn’t you recommend that approach vs. a state owned scheme?

    Also, I’m wondering about a potential loophole. Since you have two kids, each with their own plan – couldn’t you transfer the assets so that the child applying for financial aid happens to be the child with the least $ in their account at the time? Sibling assets don’t count towards financial aid calculations, right?

    Great article, really helpful!

    • Your approach is what I’m advocating, Ani. You chose the plan and the funds.

      Some states have two plans. One, an expensive plan in which an advisor helps you invest the money in the 529 Plan. The other, a lower-cost DIY plan. I prefer the latter.

      Regarding that loophole, I haven’t investigated, but it seems too simple to work. The reason I haven’t investigated is that even without the 529s, our assets as parents will preclude them from being considered for any need-based financial aid.


  13. Math alert: “…20 future heirs and heiresses with $750,000* and reduce her taxable estate to $5 Million, eliminating the possibility of paying hefty taxes on that $1.5 Million of her estate.”

    *you mean $75,000, I think

  14. Nice article. My favorite part:

    Reasons not to superfund a 529 include not having a swimming pool full of cash

    Thanks for this coverage of 529 plans.

    I appreciate the comments above that debate whether or not 529 plans are a good idea at all. There are certainly a lot of unknowns about the future. Will the college landscape be substantially different in 15 years from the expensive mess it is now? Given the rate at which legislation passes in this country these days…. I wouldn’t bet on it.

    — TDD

  15. Hey Leif,

    What are your thoughts on UGMA/UTMA as an alternative to 529 investing?

    Do you see any pros/cons for each specific type of account?


    • We used UGMA accounts for our kids because that was the only thing available at the time. They worked out well and each had $25K left over after they were done with college to use as they wished to get started in life. I’ve started a UGMA for my grandson #1 and will also for #2 born last week. My thought thought is to use those funds to pay for private HS and then 529 for college. Our state doesn’t allow 529 funds to be used for high school. That way the funds will be less/used up by the time they apply for aid if needed for college. We can get a $10K state deduction for 529 in our state so I think I’ll start a grandparent 529 for them for the college funds, realizing any 529 grandparent funds count as income for them we’d use these funds in their later college years.

  16. I am still confused on the whole scholarship aspect and allowing a Qualified Distribution from the 529 plan. Since it is an approved withdrawal, there is no penalty but there are taxes on any earned portion. Is this treated as a pro rata distribution ? Is it taxed as earned income or capital gains ?

    For example. I put $100K into a child’s 529. It grows to $200K. The child then earns a $50K scholarship. I withdraw $50K from the 529. Is this $50K withdrawal considered $25K contribution and $25K earnings, so that $25K is taxed ? No penalty, but is this $25K taxed at capital gains rates or income tax rates ?

  17. I have 3.5 kids, ages 4,2,1 and eta in a few months. I’ve used vanguard’s calculator to set aside a monthly amount to give reach of them $100k for college or stay in life.

    However, I’m not opening a 529 for 2 reasons :
    1. the cost of education in 15-20 years won’t be what it is today. The system is just not sustainable and it’s becoming increasingly common to recognize the drawbacks of a 4 year liberal arts education over technical/ skilled trade education. Student loan reform is actively underway, and arguably one of the biggest problems out country is going to face in the next 2 decades. I don’t want $400+k tied up that I can’t access except through qualified education expenses or having to hack the system with a loop hole.

    2. I believe providing my children a start with their first house or investment in a business decision may outweigh the benefits, tax or otherwise, the cost of an education. As one above noted, math is math…. You can argue an education is an investment, but not a guarantee. A tangible asset is a way better bet to building generational wealth, in my opinion.

  18. Great article. Didn’t hear much experience with the pre-paid plans. Here’s mine in Virginia. Bought 8 semesters of pre-paid (4 years) when child #1 was 4 years old for $21,240.00. She is now a sophomore at an in-state eligible school – current annual tuition is $22,336 per year (four year bill =$89,344). Child #2 – will be attending different in-state eligible school – initial purchase for 8 semester (4 years) was made at age 2 for $20,844.00. Current annual tuition at her college is approximately $17,052-$27,590 (depending on which school within the university). We also have a traditional 529 (for additional cost – room, board, computers, etc or if they had gone to expensive private school). The financial benefits worked out very well for us with the pre-paid, but an additional benefit is the piece of mind (no matter what, after the pre-paid was purchased, the kids had a solid option for paying for college). Sort of the same feeling as paying off a mortgage – piece of mind and one less thing to stress about.

    • I looked into our state’s prepaid plan and found language that the money you put in was not guaranteed to be available for use. Basically, it seems set up like a literal Ponzi structure.

      Granted, the chance of a state defaulting on its debt is very low (and if a state is defaulting, college funding is unlikely to be a top concern)…but at the time, it was the height of the GFC, so anything seemed possible. I went with the 529!

    • Virginia closed its Prepaid 529 plan to new participants on April 30, 2019. It will be replaced by a yet-to-be-announced plan. The first iteration of the prepaid plan wasn’t that popular and it didn’t cover all fees.

      Virginia residents get $230 state tax deduction for a $4,000 contribution. You can have multiple plans, and get the deduction in current year for each one, as long as the owner/beneficiary/investment choice are not identical between the two 529 accounts. Or you can carry forward the excess deduction to future years.

  19. My opinion is 529’s are a bad deal. They are not designed to give you a break, they are designed to assure to a very high percentage you will fund the state’s school and they lock the money up precisely for that purpose. Effectively 529’s can only be spent on “education” which means giving that money to colleges. 529’s do not really pay for the needs of your kid, they pay for the needs of the school. There is a reason college expense grows at 6% and the reason is because 529’s grow at 6% and there is very little you can do with 529 money but give it to a school. If you pull the money out you owe taxes and penalties and you would have been far better off just putting the dough in a tax efficient brokerage account. They dazzle you with “tax advantaged growth” and “portability” so what? If Jr is smart enough to get into Harvard he’s smart enough to get some kind of scholarship, otherwise he’s going to the state school. As a parent it is your responsibility to fund some kind of post secondary education, but math is math, and chemistry is chemistry at any school you go to at the undergrad level. In fact one of the wanna be neurosurgeons in my med school class went to a small down state school precisely because of this. He was MIT smart but would have been an also ran at MIT, but at the little down state school he was Valedictorian smart. Instead of living at the mean at MIT he lived a couple standard deviations out in the tail, and to a Med school admissions committee Valedictorian trumps MIT also ran. MIT a couple hundred K, down state school 40K we report you decide.

    My goal was to be able to provide a 4 year all paid for degree to my kids if I kicked the bucket. 1 year after their birth I funded a FL prepaid which gave me 120 hours plus fees and housing at any FL school from community college to U of F. I paid once, $21K and I was done. They had guaranteed school regardless of whether I was dead or alive and the state got to eat the inflation. The next year I put 20K into a UGTM in Vanguard funds. The UGTM grew to about $60K. I disbursed the UGTM over 4 years so in any one year the money didn’t make much cap gain difference to an 18, 19, 20, 21 yo tax situation. That money paid for their lives. a couple trips to EU and summer abroad, ballet school on the side, camera’s and electronics, vacations, clothes, etc. I ran it like a 4 year retirement. The last year there was enough to get the kid launched, in an apartment, with a insured car. So 41K got the job done. Net taxes on the original 41K over 2 years was about 8K and amortized over 20 years my net investment was $49K for about $130K net educational value covering 4 years of school plus launch and car. The cost of managing the UGTM was negligible. My net ROI was 6%.

    I 100% retired with 2 kids in college (no side gigs and all that BS) and felt zero impact on my cash flow using this plan. If I had been smarter I would have put the UGTM 20K into BRK.B and they would still have $200K left in the UGTM today to spend how ever they like because they own the money not some damn school.

    • I’m curious which med school admissions committees told you that an MIT “also ran” candidate is seen as worse than a small state school grad with a good GPA.

      I’ve been on an admissions committee (MBA, not med school) and would draw the complete opposite conclusion. An MIT “also ran” has spent 4 years among the best and brightest minds in the country, faculty and students alike. Don’t underestimate the strong work ethic and high standards of quality required to just have a mediocre GPA there, far greater than any small state school can offer.

      Good luck to your children in med school.

  20. Thanks for a great article. Like many I am struggling to figure out how much to fund each 529. I have 3 kids (7,5,4) and have been fairly aggressive in funding so trying to figure out when “enough is enough”. I am in the fortunate position of having enough assets to keep saving if I want to, but don’t want to go overboard so to speak. I am aiming for a 4 year private college so that is a bit more.

    Curious about your rationale for being 100% equities and if you have a plan for reducing that exposure over the next 8 years. Is this to just maximize growth with a plan to pass along an excess to grandchildren one day? Are you concerned about a possible downturn right around the time that you need the money?

    Also how are you approaching the decision as to how much to save and when to stop funding? To me it is tough to project out so many years when the kids are young.

  21. Another bit of food for thought about 529 plans. If I invest in my states 529 plan, it is protected from creditors. This would not be the case if I invested in any other states’ 529. I’m not sure if this would be an issue since the child is the beneficiary and the overall likelihood of being in a situation where it would be an issue is extremely low. But something to think about.

    • Very interesting — I agree with the premise that the risk of losing a 529 in a child’s name to forfeiture is extremely low, but I suppose it’s greater than zero.

      About 2/3 of states give us tax incentives to choose our own state’s plan.

      If you live in one of the 5 to 10 states that have one of the better plans and no incentive to choose your own over another in that grouping, this would be a reason to choose your own state.


  22. Great article! One thing to keep in mind if you need/want to transfer a 529 between 2 plans is that the IRS limits how many you can transfer within a given year. 8bhad been chasing state tax deductions during training and found out too late that there are limits. It wasn’t a terrible penalty, but I’d prefer to keep as much of my money as possible! Check with your CPA (or the Internet) to avoid that particular pothole on the college savings road.

    • Good point. It’s tough to chase deductions, since you have to be a resident (or at least a taxpayer) of that state to get a deduction. I suppose a locums doc working in 10 states and owing income tax in all of them might want to look closely at the rules. Do you have to be a resident of the state or simply have earned income and pay tax to the state to qualify for a deduction in their 529 plan?


      • For us, it was during military service but one of us had non-military income that was subject to state taxes. The 529 offset at least part of that income, even though we technically remained residents of another state the entire time.

        While I like tax deductions, I also hate extra paperwork with an equal passion. If I were doing it again, I’d just pick a state and stick with it to avoid the paperwork drill.

  23. Great post. Very informative. I’m curious, you’ve expressed your love of Vanguard with many other prior posts yet have your 529 at Michigan as that’s where you initially lived, but no longer live there. Have you ever thought about switching to NV/Vanguard to keep everything “under one roof” or is it just not worth the difference in your case. I ask because I am in a similar position having done residency in Michigan but am now elsewhere and use Vanguard for everything else. Just trying to decide if it’s worth it to switch. I think the MI Global Equity Index Option which I currently use even has lower ER than Vanguard’s NV equivalent. Thanks for your thoughts.

    • I’m invested in the same fund as you, Jeff. The total fees add up to 0.13% for a fund that has 70% US Stock, 25% developed international, and 5% Emerging Markets.

      You’re not going to save more than a few basis points by switching to a different plan, and you could lose more than that if the money is in limbo for even one day (if it’s an up day).

      So I plan to leave it where it is, unless we were to end up in a state that offers a tax break for investing in its own 529 plan.

      Our most likely future destination is Michigan, anyway, so we may end getting a deduction on contributions to the MESP in the future.


      • Perfect, thanks for the quick reply. I was thinking along the same lines as my current state gives a tax break for ANY 529 plan contributions, so I’ll likely keep it with Michigan.

  24. I wonder if I can use the leftover sum for educational adventures, like outdoor leadership school or ski resort CME courses.

  25. re. the 529 $ being included in financial aid calculations: I’m almost certain, if parent owns it, with child as beneficiary, it is included as Parent’s asset, thus maybe FAFSA counts only about 5-6% for child’s tuition. If $ was in account with Child as owner, would be counted as about 25% for financial aid purposes. But, if grandparent/other owns account–I think that changes it, and MAY count as child’s asset–I’m not certain on that though.
    I used 529 plans, being over the limit for any tax credits, for 2 boys to finish college. When 2nd son graduated early, transferred remaining $s, to 1st son in med school. Now that 2nd son starting med school, transferring little remaining from 1st son Back to 2nd son. Also, living in IL, at 4.95% income tax rate, have always contributed 20k max, for $990 back on state taxes. That is huge for me. This year, I deposited in son’s account in early January to get tax deduction, and withdraw almost all within 30 days, to use for tuition. So totally worth it to do as a conduit, if your state has tax deduction. I’ve heard on some of these boards, they only want to contribute to their kids for undergrads. With med school debt averaging at almost 200k, fortunately, my first son has just under 100k debt, though we tried to help as much as possible. 2nd son in pursuing med school prevented us from helping son #1 more. And we have so little saved now for younger daughter. Oh well. We still have to keep working. But we did not want our sons saddled with 200k in debt. We do pay ourselves first for retirement savings. So I say to those starting out. Max your retirement first, then max your 529 plans, especially if state tax deduction. You will find ways to use in future–even if for grandchildren. But school in France is a great idea in retirement!

    • I’m not well versed in FAFSA, but the following from SavingForCollege website may help clarify how 529 plan assets may impact financial aid and Expected Family Contribution determination — link to source, https://www.savingforcollege.com/intro-to-529s/does-a-529-plan-affect-financial-aid:

      Yes, a 529 plan can affect college financial aid, but the impact is limited and will vary depending on who the account owner is:

      529 plans owned by the parent or student

      Are assets counted on the Free Application for Federal Student Aid (FAFSA)?

      Yes, but assets in accounts owned by a dependent student or one of their parents are considered parental assets on the FAFSA. Around the first $20,000 of parental assets fall under the asset protection allowance and won’t be counted in the Expected Family Contribution (EFC) calculation. For parents who save more than the allowance, only a maximum of 5.64% of parental assets are counted. This is quite favorable compared to other student assets, which are counted at 20%. Higher EFC means less financial aid.

      How are distributions treated?

      529 plan distributions receive favorable treatment on the FAFSA. Qualified distributions from a student-owned or parent-owned 529 account to pay for this year’s college expenses are not included in the “base-year income” that would reduce college financial aid eligibility.

      529 plans owned by grandparents or anyone else

      Are assets counted on the Free Application for Federal Student Aid (FAFSA)?

      No, assets held in a 529 account owned by a grandparent, other relative or anyone else besides a dependent student or one of their parents will have no effect on the student’s FAFSA.

      How are distributions treated?

      When a grandparent withdraws the funds to pay for their grandchild’s college expenses, it will be counted as student income on the FAFSA. Student income is assessed at 50%, which means if a grandparent pays $5,000 of college costs it would reduce the student’s eligibility for aid by $2,500. Remember, higher EFC means less financial aid. One strategy to avoid this problem: if the student will graduate in four years, they can wait to contribute until after the student’s second semester of college, since the FAFSA looks at income from two years prior.


      Here is a simplified example of the impact of a parent-owned 529 account.

      You file the FAFSA aid application when your child is a senior in high school. Let’s say you’ve exceeded the asset protection allowance and have a 529 savings account with $20,000 in it, of which $10,000 represents your original contribution and $10,000 is earnings.

      Year 1
      Your child’s eligibility for federal financial aid this year will decrease by no more than 5.64% of the account value, or $1,128 ($20,000 x 5.64%). Assume there is no further appreciation in the account and you withdraw $5,000 in the fall to pay for the first semester college bills.

      Year 2
      You have $15,000 left in the account when your child applies for aid for sophomore year, and it will again be assessed up to 5.64% of the account value, increasing your EFC by up to $846 ($15,000 x 5.64%).

      And although the $5,000 withdrawal brought $2,500 of excluded earnings with it, none of it will be counted as income on the FAFSA.

      The federal aid formula is more complicated than what is described here, but this gives you a general idea of how to calculate impact.

      Be Prepared!

      Sound complicated? It is. And we are only talking about the federal financial aid rules here — each college and university can (and most will) set its own rules when handing out its own need-based scholarships, and many schools are starting to adjust awards when they discover 529 accounts in the family. Also consider that the federal financial aid rules are subject to frequent change.

      Here are some thoughts without an answer concerning a 529 owned by other than dependent student or parent, e.g., by grandparent, trust, etc., relating to this statement:

      One strategy to avoid this problem: if the student will graduate in four years, they can wait to contribute until after the student’s second semester of college, since the FAFSA looks at income from two years prior.

      If the parent has a 529 plan for the student, after the second semester of college, might the grandparent or trust transfer incrementally from the grandparent or trust 529 plan funds to the parent 529 plan? Would this seem to have some benefit in calculating EFC, both from the income from two years prior criteria and also because the money in now in the parent’s 529 plan and the lesser 5.64% consideration given to parental funds?

      May be a different, more financially beneficial way to peel an onion.

  26. Very comprehensive article. Thank you.

    Perhaps I missed it, but I did not see an explanation on how the amount of withdrawals that may be subject to penalties and taxes is determined.

    For example, over the years $100,000 contributed. The 529 account grew to $200,000. Then $150,000 used over several years for qualified educational expenses [no penalties or taxes]. Now, the 529 owner is looking to withdraw the remaining $50,000 or portions thereof.

    Is the portion of the withdrawals subject to penalties and taxes determined:
    1) pro-rata based on contributions versus total account [100,000/200,000 = 50%],
    2) the $150,000 used for qualified education expenses considered coming first from the $100,000 contributions, then $50,000 from growth [leaving the total $50,000 remaining subject to penalties and taxes],
    3) the reverse [coming first from growth and then $50,000 from contributions, leaving remaining $50,000 free from penalties and taxes], or
    4) some other method?

    • Hey Ron, the withdrawal portion will be pro-rata. Per your example of a $200k account ($100k contributions and $100k earnings):
      -$150k spent on qualified education ($75k contributions & $75k earnings) with no penalties or taxes
      -$50k remaining that you want to withdraw ($25k contributions & $25k earnings) will equal $25k contributions + $25k earnings (where the earnings ONLY is subject to a 10% penalty and treated as income tax at the Federal and State level)

      • Mark,

        Thank you. What I suspected but hoped withdrawals might be treated like Roth IRA early withdrawals, but in reverse.

        With Roth IRA, early withdrawals treated as coming from contributions first. No penalties, etc. until all contributions withdrawn and earnings begin to be withdrawn.

        I hoped with 529 for eligible education expenses came first from earnings then from contributions, with any remainder withdrawn for other than eligible education expenses considered as coming from contributions.

  27. Great article as always PoF! I started a 529 for myself shortly after graduating college, as I was considering doing an MBA program. I ended up opting for a professional degree instead, so I recently switched the beneficiary of the account to my newborn daughter.

    Only thing I would add to the article is that non-qualified distributions are taken pro-rata (the proportion of your contributions compared to investment earnings). Unlike the Roth IRA and being able to take out your principal tax-free, you are subject to paying taxes on the earnings, which will likely be a larger distribution percentage the longer you’ve had an account open (assuming normally functioning markets). Thanks again for all the great articles!

    • Yeah, that’s a bummer, but I’m not surprised it works that way.

      It’s kind of like donating appreciated funds to charity. You can’t donate just the capital gains. You have to donate stocks and funds, basis and all.


  28. I have 4 kids and I am a family physician. My income will guarantee that my kids will not get any need based aide. But my income is not enough to cash flow college at present rates let alone 15 years from now. The 529 makes it possible to save in a tax friendly way so that my kids to not have to deal with the debt that I did.
    The taxable account is more flexible but taking a 15-20% cut on the gains does not sound fun. I will save that for retirement when that money becomes cheaper.

  29. Great post! I have 4 kids and we are attempting to fund most of their college. Knowing that, we cashed out a big chunk of our taxable brokerage account and threw it into their 529. No sense in paying capital gains tax if I can avoid it.

    The big question is how much to fund. My kids are 10, 8, 5, an 3. We have 133k, 123k, 91k, and 65k, respectively. I’m thinking that may be enough to cover 75% and we could cashflow the rest…at least that’s the plan.

  30. Nice tip regarding the scholarship “hack”. This is what I love about “higher end” financial blogs. Always something I didn’t know.

    Here’s another I just discovered…We are letting our daughter live with us while she attends. Each college publishes an “estimate of attendance” which shows what housing costs might be, and they have a column for “dependent” students (i.e. that are living with parents, etc.). As it turns out we withdraw, tax and penalty free, the amount of “reasonable housing”. What we plan to do is withdraw it, then put it into a ROTH or UTMA for her.

    When our daughter was born we put in 50% of what she’d need to attend 4 years at Colby Collge, an Ivy League college here in Maine. As it turns out, she’ll be doing an AA in child education and needing about 10% of what we have in there. Our goal is to get it all out, tax and penalty free, using as many little hacks as we can find.

    • Brilliant, and perfectly legit. Thanks for sharing!

      The worst case scenario, it seems, is that you end up with a fair amount of leftover funds, which can sit idle and grow for 2 to 3 decades to be there for the next generation.


  31. Great, thorough post! One small correction on scholarships: if a student receives a merit scholarship, 529 funds can be removed penalty-free, but any earnings in the withdrawal are still subject to ordinary income taxes (it’s not penalty-free AND tax-free unless it is from the initial contribution). I’ve heard there may be a way to have the withdrawal paperwork have the student’s name as the recipient so that the withdrawal can be taxed at the student’s (lower) rate, but I’ve never heard from anyone who has successfully done this. https://www.kiplinger.com/article/college/T002-C001-S001-the-529-plan-scholarship-exception.html

    • That’s really good. I didn’t know that.
      I’m not worried about scholarships at all. They’ll only help.
      If our son doesn’t use all the money in his 529 plan, we’ll keep it for the grandkids.
      It’s a good thing to have some money for education.

  32. POF –
    I’ve got 3 kids in 529s and thanks to the bull market
    and merit scholarships, they will each have significant
    money left in them. I realize a first world problem.

    Two thoughts I’ve had looking back on it, that are
    probably appropriate considering your readership:

    1) Asset Allocation in 529. The only benefit of the 529
    is if there are capital gains, so this is not the place to play
    it safe for high net worth folks. (This may be different
    for folks with less means.) I think many of the age based
    allocations are incorrect for those with significant resources.

    2) Organize Accounts by Capital Gains. I organized by
    kid and contributed over about 9 years to each. Looking
    back, I wish I had contributed to a different 529 in each
    calendar year such that each 529 would have unique
    cost basis — using multi states if needed. Then I’d pay
    tuition each semester with the lowest cost basis 529.
    With money left over it would have the highest cost basis
    and the taxes for pulling it out would be significantly
    better than the “avg cost basis” that 529s use.

    I have done tremendously well with my 529s and think they’re
    great. However, I’ve never seen discussions for advanced
    strategies for folks like you and your readers that have
    significant resources.

    Thanks for the always interesting articles.

    • That second one an interesting strategy and one I never considered. Reminds me of the Roth recharacterization “horse race” that people used to take advantage of (no longer an option after the TCJA tax reform).

      I agree with you on being aggressive. It should be money you don’t absolutely, positively need (if it is, it shouldn’t be in a 529 plan) and the benefit is larger if you actually realize tax-free gains. We’re 100% stock in our 529s — a single fund option that’s 70% US, 30% international.


      • I’m not sure I agree that one should be aggressive in a 529 plan, but maybe I need to change how I think about the 529 plan. For my first-grader, I was 100% in a Vanguard Total Stock Market Index Fund and contributed $15,000 a year starting at birth. The account now has enough money in it to fully fund the cost of attendance at our state flagship public university. I’ve stopped contributions and switched the allocation to 40% equities, 60% bonds because at this point I don’t want to take any unneeded risks, which include losing value to either (i) market losses or (ii) inflation. I plan to reallocate the $15,000 a year into a taxable account going forward so I have flexibility with the surplus over the cost of our state flagship public university.

        This is money I don’t think I can afford to lose because I want to pay for his education and it represents about 10% of my total net worth and about 50% of my AGI. Why would I take risk and be overly aggressive with money I will need in 11 years? In my 401k/IRA, on the other hand, I’m 100% in equities because I have 25 years before I will tap those accounts.

        • Reader –
          My thought is that the only benefit of the 529 is if there is growth and capital gains that you can use to pay for qualified expenses. If you were going to put the money in all cash (an extreme case), even over 18 years, there would be little cap gains. This means the tax free benefit of the 529 was for naught. You’d have less hassles and restrictions keeping the funds in a taxable money market account. Hence, I think you need to be aggressive.

          Now once you’ve taken advantage of a bull market and have considerable cap gains you have a different dilemma. I’m a believer in the idea of “stop playing when you’ve won the game”–it sounds like you may be approaching that situation.

  33. My state allows a roughly $6500 tax deduction per beneficiary. Can I place $6500 in my account, my wife’s account, and each child’s account for a tax deduction of roughly $19,500 with the idea that I’ll roll over the money from my wife and I’s accounts.

    • I like the way you’re thinking, North. I can’t speak to the rules as it’s going to differ by state, but I’ll bet there’s a contact form or phone number for the specific plan, and they should be able to tell you.

      I’ve been subject to a per-household cap where I’ve lived, so I’ve never had the opportunity to explore that option.

      Let us know what you learn!

  34. Great post, this will be a classic.

    I didn’t know about the AOTC. I just assumed that I would start working more when kid leaves for college, but that is yet another reason to remain semi-retired.

  35. Great view of an important topic for physicians.

    I got pretty excited about the section on free money from the government until I saw the income limit. Most of the good stuff is phased out for high-earners.

    I do get a $1,000 annual tax credit in my state, which is awesome.

    There are dozens of factors going into how much money is needed. But a lot of doctors just want “a number.” Much like retirement goals.

    I started telling them 100K, but after talking to a lot of doctors 150K is now my default recommendation. Disclaimer: this is only for those who don’t want to further think or plan about this issue at all. They may have too much or too little but they will be okay.

    If there is too much, there are options. The most common is to pick another relative to give it to.

    If it is too little, they can supplement from taxable funds, or cash flow it. Or get the kid to work or find scholarship money.

    Since the primary benefit of a 529 is tax-free growth over time, consider putting 150K into each kid’s fund when they are little. This would work only for a couple and with no more donations for five years. I realize not everyone has the cash available to do that, but some do. You would then be done with college funding.

  36. Nice post, POF!

    I love the 529 hack (that’s what I call it) where you can pull out an equivalent amount that your kid wins in scholarships without getting hit with the 10% penalty + tax. As my kids get older, they’ll certainly know about this and I’ll let them know that I plan to give that to them should they achieve that goal and the rest of their educational plans are paid for.

    Being in NC, I don’t get any tax benefits from investing in the 529 here. So, we have a 529 for each kid in Utah. We contribute monthly to each, and as the kids come out of child care we will contribute more.

    P.S. I completely agree that funding retirement over college expenses is the right prioritization. If your kid was given the choice to pay for college or pay for their parents care in their elderly years, they would definitely say (if they had any wits about them) that they’d prefer the student loans in that situation.


    • You still pay taxes if you pull out for scholarship. Just no penalty. It’s somewhat “problematic” because parents are often in their highest tax bracket years when the kids hit college. So we chose not to pull out money equivalent to my kids scholarship. Just don’t need a tax hit.


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