What a 529 Plan Does

A 529 plan is a tax-advantaged savings account you open to pay for education costs. You put money in, it grows over time, and when you withdraw it to pay tuition, room and board, books, or other school expenses, you do not pay federal income tax on the growth. The account is named after Section 529 of the tax code that created it.

You can open a 529 plan for anyone — a child, grandchild, niece, or even yourself. The person you open it for does not have to exist yet. The money stays in the account under your control until you decide to use it, and you choose how it is invested.

Key Takeaways

  • You open a 529 plan through your state's plan or a private investment company, fund it with your own money, and choose how the money is invested.
  • Money grows tax-free, and you pay no federal tax on the growth when you withdraw it for school expenses like tuition, room, board, and books.
  • You control the account and decide when and how much to withdraw; the student does not have to be in school yet or even born.
  • If money is left over after school, you can transfer it to another family member's 529 plan or withdraw it (paying taxes and a penalty on the growth only).
  • Each state offers its own 529 plan, and you can open a plan in any state regardless of where you live or where the student will attend school.

Opening a 529 Plan

You open a 529 plan by choosing a state plan or a private investment company that offers one, then completing an process. Most states run their own 529 plans, and you can open an account in any state's plan even if you do not live there. Some people choose their home state's plan; others choose a plan in a different state because of lower fees or better investment options.

When you open the account, you name a beneficiary — the person whose education the money will pay for. You provide their Social Security number or tax ID. You also choose how the money will be invested: you can pick individual funds (stocks, bonds, money market funds), or you can choose an age-based option that automatically shifts from riskier to safer investments as the beneficiary gets closer to college age.

There is no annual limit on how much you can contribute, but there is a total limit per beneficiary per plan (usually between $235,000 and $550,000, depending on the state). You can contribute from your own money, and other people — grandparents, aunts, uncles, friends — can also contribute to the same account if you give them the account number.

How Your Money Grows

Once you fund the account, the money is invested according to the choices you made. If you chose individual funds, your money buys shares in those funds and grows or shrinks based on how the market performs. If you chose an age-based option, the plan automatically rebalances your investments over time, moving money from stocks to bonds as the beneficiary approaches college.

You do not pay federal income tax on the growth each year the way you would in a regular savings account or brokerage account. This tax deferral is the main advantage of a 529 plan. If you invested $10,000 and it grew to $15,000 over ten years, you would owe no federal tax on that $5,000 gain — as long as you use the money for school.

You can change your investment choices once per calendar year, or more often if you change the beneficiary to another family member. You can also change which state's plan you use, though this counts as a change of beneficiary for tax purposes.

Withdrawing Money for School

When the beneficiary is ready for school — or at any point before, during, or after — you can withdraw money from the account. You request the withdrawal from the plan, and the money is sent to you, the school, or directly to the student, depending on the plan's rules.

Withdrawals used for may have access to education expenses are not taxed. may have access to expenses include tuition and fees, room and board (if the student is at least half-time), books and supplies, computers and internet access, and up to $35,000 per beneficiary lifetime for student loan repayment. Some plans also cover K-12 tuition and up to $35,000 per year for apprenticeship programs.

You do not have to withdraw the money all at once. You can withdraw $5,000 one semester and $8,000 the next. The plan will track how much you have withdrawn and how much remains. You pay the withdrawal fee (if any) each time you withdraw.

What Happens to Leftover Money

If money remains in the account after the beneficiary finishes school, you have several options. You can transfer the remaining balance to another family member's 529 plan — a sibling, cousin, or even your own account if you decide to go back to school. This transfer does not trigger any tax or penalty.

You can also withdraw the leftover money. If you do, you owe federal income tax on the growth (not the contributions you made), plus a 10 percent penalty on the growth only. For example, if you contributed $20,000 and it grew to $25,000, you would owe income tax and a 10 percent penalty on the $5,000 gain. The $20,000 you contributed comes out tax-free.

Some states also allow you to roll unused 529 funds into a Roth IRA for the beneficiary, up to certain limits. This is a newer option and rules vary by state.

How 529 Plans Affect Financial Aid

A 529 plan owned by a parent counts as a parental asset on the Free process for Federal Student Aid (FAFSA), which means it may reduce the amount of need-based financial aid the student receives. A 529 plan owned by a grandparent or other non-parent relative does not appear on the FAFSA at all, though some schools ask about it separately.

Withdrawals from a 529 plan do not count as income on the FAFSA, so taking money out does not reduce aid in the year you withdraw it. However, the account balance itself is counted, so having a large balance can affect aid calculations.

State Tax Deductions and Other Benefits

Many states offer an income tax deduction or credit for contributions to their own 529 plan. The deduction amount and rules vary widely by state. Some states deduct contributions from your state income tax; others offer a tax credit. A few states offer no deduction at all. You can look up your state's rules on your state's 529 plan website.

You do not have to open your state's plan to get the tax deduction in some states — a few allow deductions for contributions to any state's plan. But most states only deduct contributions to their own plan. If you live in a state with a generous deduction and your state's plan has reasonable fees, opening your state's plan often makes sense.

Frequently Asked Questions

Can I change the beneficiary if the first one does not go to college?

Yes. You can change the beneficiary to another family member at any time with no tax penalty. Family members include siblings, cousins, aunts, uncles, parents, grandparents, and in-laws. If you change the beneficiary, you may be able to change your investment choices again that year.

What if the student gets a scholarship?

You can withdraw an amount equal to the scholarship without paying the 10 percent penalty on the growth, though you will still owe income tax on the growth portion. If the scholarship covers $10,000 and your account has $15,000 (with $5,000 in growth), you can withdraw $10,000 and owe tax only on the $5,000 growth portion, not the penalty.

Can I use 529 money for trade schools or apprenticeships?

Yes. may have access to education expenses now include tuition and fees at trade schools and apprenticeship programs. You can also use up to $35,000 per beneficiary over their lifetime to repay student loans.

Do I have to use the money before the beneficiary turns 18?

No. The money can stay in the account as long as you want. You can withdraw it when the beneficiary is in college, graduate school, or even years later for continuing education. There is no age limit on when you must use the money.

What happens if I need the money for something other than school?

You can withdraw it, but you will owe federal income tax on the growth plus a 10 percent penalty on the growth. If you contributed $20,000 and it grew to $25,000, you would owe tax and penalty on the $5,000 gain. The $20,000 comes out tax-free. Some states also charge a state tax penalty.