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College Investing Plans

 New college investing plans, formally known as Section 529 plans, are being sponsored by several states with varying benefits. You do not have to be a resident of a given state to participate in its plan, but you should consider your home state’s plan, if available, to optimize tax deferral.

Some plans allow parents and grandparents to contribute up to $100,000 (married) or $50,000 (single) at one time without any gift tax implications. No income level restrictions apply.

The contributions in some states are not included in taxable income for the contribution year. Further, the earnings on the contributions are not taxed at either the federal or state level until distributions are made for educational expenses. Unlike some other educational funding plans, “educational expenses” under Section 529 are not limited to tuition payments alone. Room, board, books, required supplies, and other qualified expenses at any postsecondary institution in the United States may be paid from plan earnings.

If the child does not attend college, the investments can be used for another family member of the same generation as the beneficiary. When distributions are made, the earnings are taxed at the child’s income tax rate, usually 15%.

The investments in the various state programs are managed by large financial institutions, such as Fidelity, TIAA-CREF, and others. Neither the donor nor the child (nor the child’s parent) can direct the investment of the assets. In general, the investment company invests the funds in asset pools according to the age of the child. The younger the child, the more aggressively the funds are invested. As the child approaches college age, the funds are almost entirely invested in bonds and money market funds.

With limits far higher than the much-touted but paltry education IRAs of only a year ago, the Section 529 plans merit serious consideration.

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