The recent passage of the Tax Cuts & Jobs Act allows for 529 Savings Plans, which previously could only be used for qualified college expenses, to now be used for private school tuition. This is good news for parents whose state offers an income tax deduction for 529 contributions or who anticipate paying Christian school tuition over a long time horizon.
What is a 529 Savings Plan? It is a type of savings and investment account where investment gains can be withdrawn tax-free as long as the monies are spent on qualified education expenses.
How Does the New Tax Law Change 529s? Effective January 1, 2018, up to $10,000 can be withdrawn per year from a 529 Plan for the beneficiary’s Christian school tuition. This $10,000 limit is the total across all 529 accounts for a specific beneficiary. Tuition is the only qualified expense for K-12, so textbooks, room and board, and supplies cannot be paid for from a 529. This limitation does not apply once the beneficiary enters college. Since 529 plans are administered through each state, you should confirm if your plan allows private school tuition withdrawals before making any contributions.
A Virginia Case Study A husband and wife have two children (ages six and eight) in a Christian school where the annual tuition for each is $11,000. The father opens two Virginia 529 accounts for each child in his name and contributes $10,000 to each. Remember, the maximum that can be withdrawn from a 529 per year for private school tuition is $10,000, which is why he did not contribute $11,000 per child. He invests the contribution in a money market fund because he knows it will be withdrawn within a short timeframe. A few weeks after the contribution, he has the $10,000 in each account distributed back to him. This results in $20,000 that can be deducted from his Virginia taxable income. However, Virginia limits the deduction to $4,000 per account, so the couple will deduct $8,000 in the current year and carry over $12,000 to future years. Overall, this is about $1,050 in Virginia tax savings, $420 of which is realized in the first year.
A Long Time Horizon Case Study A husband and wife just had their first child, and they are confident the child will be sent to Christian school from kindergarten through 12th grade. They open a 529 account for the child and begin making $4,000 in contributions in a growth-oriented investment. Assuming the account grows at 5% each year, they will have about $3,200 in investment gains that can be withdrawn tax-free when the child enters kindergarten.
Other Key Points The withdrawal from the 529 should be in the same year as when the expenses were paid. Keep tuition receipts so you can prove you had qualified expenses for the 529 distributions in case you receive an inquiry from the IRS. 529 distributions are recorded on your federal tax return, and you will receive a Form 1099-Q.
The Tax Cuts & Jobs Act gives parents of children attending a Christian school an excellent tool for paying K-12 tuition, especially if your state provides a tax deduction for 529 contributions.
Chris Bishop is a CERTIFIED FINANCIAL PLANNER TM professional working for Partners in Financial Planning (partnersinfinancialplanning.com), a Fee-Only Comprehensive Financial Planning Firm serving clients nationwide. Chris serves his church by leading a personal finance ministry and has worked with Renewanation in regards to the Virginia Education Improvement Scholarship Tax Credit Program.