Preparing to cover those long-anticipated education expenses with your 529 plan?
Withdrawing funds is straightforward, but these tips can help you avoid common mistakes.*
1. Stick to qualified expenses
To avoid federal income taxes and the 10% penalty on earnings, withdraw funds for qualified expenses only. These include tuition, certain room and board expenses, fees, books, supplies, and equipment required for the enrollment and attendance of the beneficiary at an eligible educational institution.**
2. Match withdrawals and expenses
Timing is everything when using your 529 plan for college costs. Make sure you withdraw funds in the same tax year you incur the expenses. If you don’t, you could face penalties and taxes. Each year, you or your beneficiary will receive a Form 1099-Q from your 529 plan, showing the distributions for that year. The amount used for tuition should match what’s reported on Form 1098-T from the college.
3. Withdraw the right amount
It’s crucial to withdraw only what you need. If you take out more than necessary, the excess will be considered taxable income for you or the beneficiary. When calculating your withdrawal amount, remember to:
- Subtract any scholarships or grants.
- Deduct federal tax credits like the American Opportunity Tax Credit (AOTC) or the Lifetime Learning Credit (LLC).
4. Forget withdrawal deadlines
There are no specific deadlines for withdrawing from a 529 plan. You don’t have to take distributions when the beneficiary reaches a certain age or within a set time after high school graduation. Funds can stay in the 529 account indefinitely.
5. Pace your withdrawals
Consider spreading out your withdrawals over the four years of college. This reduces the risk of withdrawing more than your yearly qualified expenses. If possible, keep contributing to the plan, even during college. Using the proceeds for qualified expenses means paying less income tax, and you won’t miss out on any state tax deductions or credits.
6. Make the most of unused funds
If there are leftover funds or the beneficiary doesn’t attend college, you have several options:
- Change the beneficiary to a qualifying family member.
- Save the funds for graduate school or a future grandchild’s education.
- Roll over the funds tax-free to a Roth IRA for the beneficiary.
- Use the funds for your education.
- Take a non-qualified distribution and pay federal income tax plus a 10% penalty on the earnings.**
- Do nothing immediately and let the funds grow.
7. Time your withdrawals
Remember, electronic bank transfers from your 529 plan usually take 3-5 business days, even when paid directly to your beneficiary’s school. Make your withdrawal request early to meet payment deadlines. Alternatively, you can pay the school upfront and reimburse yourself from the 529 account. If you prefer a check, allow at least 10 business days. If you haven’t added banking instructions to your account, give yourself extra time to verify your bank information.
*Consult your legal or tax professional for tax advice before withdrawing 529 funds.
**In California, if the funds aren’t used for qualified higher education expenses, a federal 10% penalty tax on earnings (as well as federal and state income taxes) may apply. Non-qualified withdrawals may also be subject to an additional 2.5% California tax on earnings.
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