If you can swing it financially, it makes sense to front-load your 529 plan, also known as a “qualified tuition plan” or QTP.

The purpose of a 529 plan is to pay future education costs, typically for a child or grandchild. Before the new 2017 tax bill, 529s could be used only for college costs. Now, they can be used for K-12 education costs, as well. Front-loading the plan allows earnings to be compounded on more money over a longer time period. In other words, the more you put in initially, the longer that money has to grow and the greater the balance when the funds are needed, especially if you're not going to need them until college.

Contribution Rules

The total amount you can contribute to a single 529 plan is set by the state in which the plan is established. The amount varies, but in many states it exceeds $200,000, according to the Securities and Exchange Commission (SEC).

Your contribution goes in after taxes so there is no federal tax deduction. Some states, however, offer a deduction for a portion of your contribution.

Contributions grow tax free and can be withdrawn tax free as long as the money is used for qualified educational expenses. There can, however, be gift tax consequences if you exceed the annual gift tax limit – $14,000 per child or grandchild ($28,000 for spouses who give jointly) for 2017, rising to $15,000 ($30,000 for spouses who give jointly) in 2018. 

Front-Load Your 529 Plan

You can get around that $14,000 or $15,000 limit via a special – but little known – IRS rule that allows you to front load a 529 plan for up to five years at one time with no gift tax consequences.

Here’s how it works: Instead of contributing $14,000 per child per year, you contribute $70,000 per child in the first year and treat it as if you gave $14,000 per year for each of five consecutive years. (For 2018, that would be $75,000 in total, at $15,000 per year.)

You can’t make additional contributions (or take money out) until the five years are up, at which time you can contribute another $75,000 for the next five years, if you wish.

If you and your spouse both contribute (and file jointly), the total amount can be as much as $140,000 ($150,000 in 2018) for each five-year period.

The Value of Front-Loading

The advantage of front loading becomes clear when you compare the savings outcome with regular annual contributions.

Front-loading $70,000, for example, would compound to $168,463 at 5% over 18 years (compounded annually).

If you contributed the same $70,000 over 18 years in annual installments of $3,889, the total would be just $114,877. That’s $53,586 in lost earnings on your contribution.

The numbers are even larger if you and your spouse front-load $140,000 versus annual contributions of $7,778. In that case, the total with front-loading would be $336,926 and the total with installments would equal $229,754 or $107,172 in lost earnings over 18 years.

Cost of College

A realistic look at the future cost of college for your child or grandchild demonstrates why it is important to squeeze every dollar of earnings out of your 529 plan.

By 2034, one year at a public university will cost $47,045, and the average one-year cost of a private school will be $105,071, according to J.P. Morgan.Those costs translate to $188,180 for a four-year degree from a public school and $420,284 for four years at a private institution. 

Watch Out for Overfunding

The numbers above may make it seem almost impossible to overfund a 529 plan, but it does happen. It’s an important consideration because in order for funds to be withdrawn tax free, the money can only be used for qualified educational expenses, as noted under "Contribution Rules."

In that situation, the best choice is to use the excess funds for another family member or even yourself, if you want to go back to school. If another recipient isn’t an option and the excess funds are withdrawn, a 10% penalty and taxes will be due. The fact that the money can now also be used for K-12 educational expenses, as well as college, will make it easier to find recipients for excess funds, if you have them.

However, the taxes and penalty are paid only on the earnings (not the original principal). That means if the balance in your 529 account after all educational bills are paid is $5,000, for example, and $1,000 of that amount comprises earnings, the penalty would be 10% of $1,000 or $100. Taxes would also be owed on the $1,000. (See also: 5 Secrets You Didn't Know About a 529 Plan.)

The Bottom Line 

You have to be pretty affluent to afford the large amount needed to front-load a 529 education savings plan. Well-to-do grandparents are most often in that position. The ability to initiate a 529 plan, front-load it and, at the same time, eliminate that amount from potential estate taxes, can be a real benefit. It's also a very good use for a big bonus or inheritance, should one come your way. (See also: Using 529 Plans to Save for College.)

Ultimately, of course, the goal is to help pay for education for your children or grandchildren so they will have the firm footing they need to pursue a meaningful life and career.





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