One reason many people can’t contribute as much as they’d like—or should—to their 401k is they have competing financial priorities such as paying down student loan debt. But one 529-plan related provision in the SECURE Act may help that problem, if in a roundabout way.
Until now, 529 funds could not be used to repay student loan debt. But the SECURE Act opens the door for families to take tax-free 529 plan distributions of as much as $10,000 for student loan repayment.
The law includes an aggregate lifetime limit of $10,000 in qualified student loan repayments per 529 plan beneficiary and, very significantly, an additional $10,000 per each of the beneficiary’s siblings. Siblings may include brothers, sisters, stepbrothers or stepsisters. A 529 plan account owner can change the beneficiary at any time without tax consequences.
Principal and interest payments toward a qualified education loan will be considered qualified 529 plan expenses, but the portion of student loan interest paid for with tax-free 529 plan earnings is not eligible for the student loan interest deduction.
Ross Riskin, assistant professor of taxation at The American College of Financial Services, says it is important to note that since some states didn’t expand qualifying education expenses to include K-12 tuition under the Tax Cuts and Jobs Act (TCJA) of 2017, it’s unclear if all states will follow the provisions put in place under the SECURE Act, as well.
All of the Act’s new 529 rules are retroactive to the beginning of 2019, but account holders will want to be cautious and check with their own 529 plan before withdrawing funds. Account holders in states that do not go along with the new federal rules may be subject to state income taxes and penalties, or possibly a repayment of state tax breaks.
Currently, the various 529 plans are evaluating the new law and it could be weeks or months before the issue is made clear for each plan.
The 529 expansion also presents an opportunity for grandparents who want to help a grandchild pay for college without affecting financial aid eligibility.
Distributions from a grandparent-owned 529 plan are considered untaxed student income on the Free Application for Federal Student Aid (FAFSA) and can reduce a student’s financial aid package by up to 50% of the value of the distribution. This can be avoided if the grandparent waits until Jan. 1 of the grandchild’s sophomore year of college (when it will no longer affect untaxed income on the FAFSA) to take a 529 plan distribution or wait until the student graduates to pay down their student loans.
Will all this immediately help people contribute more to their 401ks? Not necessarily, but it could help down the line a bit when younger employees aren’t as saddled by student loan debt and can therefore theoretically boost their 401k contribution rate.
Apprenticeships eligible for 529 funds
Another 529 plan provision of the SECURE Act expands the use of 529 plan funds to cover costs associated with registered apprenticeships, which typically combine on-the-job training with classroom instruction, often at a community college.
To be considered a qualified 529 plan expense, the apprenticeship program must be registered and certified with the Secretary of Labor under Section 1 of the National Apprenticeship Act. The Department of Labor provides a search tool to find out if a particular apprenticeship program is eligible.
According to Savingforcollege.com, apprenticeship programs are offered by employers in many industries such as construction, manufacturing, health care, and information technology. Costs of apprenticeships vary by the employer and type of job training. Under the SECURE Act, tax-free distributions from 529 plans can be used to pay for fees, textbooks, supplies and equipment, including tools required for the trades.
The inclusion of apprenticeship costs can relieve some families’ concerns that opening a 529 fund may be a disadvantage if their child decides not to attend college.
Cruz not satisfied with 529 provisions
Another 529 plan provision of the SECURE Act expands the use of 529 plan funds to cover certain costs associated with elementary and secondary education (private elementary, secondary, or religious schools), including some homeschooling expenses.
An earlier version of the SECURE Act included additional homeschooling provisions related to 529 plans, but these expansions were stripped from the bill before the House passed it and sent it to the Senate, much to the chagrin of Senator Ted Cruz (R-TX).
The final legislation does not include provisions to allow 529 plans to pay for homeschooling or educational therapy for students with disabilities or to expand qualified K-12 expenses for 529 plans.
Cruz placed his “hold” on the bill because he objected to the 11th-hour removal by House Speaker Nancy Pelosi, reportedly due to pressure from teachers’ unions who objected to the provision allowing money saved in 529 accounts to be used for home education.
The removal of that provision was clearly still on Cruz’s mind when he posted a six-minute video on Twitter railing against a variety of provisions included and not included in the $1.4 trillion, 2,313-page appropriations bill passed by Congress and signed into law by President Trump in late December (which included the SECURE Act).
In that video, Cruz says, “It fails to expand college 529 savings plans, and to expand education—this is a bipartisan idea—this is an idea that passed the House Ways and Means Committee unanimously, until the teacher’s union got Nancy Pelosi to do a drive-by shooting and strip it out. Hurting parents that have kids with disabilities, hurting kids with disabilities, hurting home schoolers. Hurting millions of public school students who are prevented from using 529 savings plans to pay for tutoring and standardized tests. It doesn’t do that at all.”
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