A 529 Plan can provide a way to save a little money on next year's taxes and save for your kid’s college education at the same time. Tara Lynn Wagner filed this report.
Think diapers are expensive? Just wait until that baby is old enough to go to college.
"In 2030, you're looking at a public school costing about $200,000 up to a private college, $400,000," said Kathryn Vunic, financial planner and CPA.
One way to tackle that seemingly insurmountable tally is to set aside money in a 529 savings plan. Over time, the money in these accounts grows tax free, meaning you will not pay any taxes on the interest you earn if the funds are used to cover higher education expenses.
"It can be used for graduate school. It can be used for tuition and fees, room and board, at any school, tax-free," said Kalman Chany, author of "Paying for College Without Going Broke."
In addition to the federal advantage, there may be a more immediate state advantage as well.
"Certain states allow for you to either get a deduction or a credit on your state tax filing," said Vunic.
You are not limited to your state's plan, but if you choose to invest elsewhere, you will likely miss out on the local incentives.
Another thing to keep in mind is that the money only grows because it is invested in the market, and that means you are taking a risk.
"You are investing money and there is a possibility that you may not earn additional money and you may actually come out with less. It is not common, but it is a possibility," said Lisa Shaheen, director of financial aid at The New School.
When setting up the account, in most cases, you will want to make sure that you are the owner and that your child is listed as the beneficiary. One of the reason for that is if your son or daughter decides not to go to college, or better yet, gets a huge scholarship, you can just change the beneficiary and still avoid paying taxes and penalties.
"You can transfer to another child, yourself, if you decide you want to go back to school, another family member, a cousin or an aunt. You can decide to take the money out, but then there will be penalties for that,” said Vunic.
The other reason is that if your child owns the account - called a custodial 529 - then once the kid turns 18 years old, the money is theirs to do with as they please.
"If they want to take the funds out, even say I’ll pay the penalties, etc., and buy a Corvette and drive to Big Sur, they can do it and you can't stop them," said Vunic.
So is it worth it to save in a 529 savings plan or will it be held against you when it comes to financial aid? We will explore those questions in the next Money Matters report.