What You Can Spend 529 Money On (and What You Can’t)

529 college savings plans can be a great way to prepare for future education expenses and benefit from tax-free growth on your money. But what expenses actually qualify for these tax-free funds? The IRS calls these “qualified education expenses”. Withdrawals from a 529 plan are tax-free when used for these qualified expenses, but withdrawals for any other purposes will be hit with federal and state income taxes on the earnings and an additional 10% penalty. Here’s what you can spend 529 money on, and what you can’t.

Which expenses qualify?

Here’s a list of common expenses that qualify for 529 funds.

• College tuition and fees for college, university, vocational school, or other eligible institution.
• K-12 expenses for public, private, or religious schools up to $10,000 per year. Home school expenses don’t qualify.
• Books and supplies for college only.
• Computer, software, and internet expenses for college only.
• Room and board expenses for college only if the student is enrolled at least half-time. Students living off campus or with a parent or guardian can pay expenses up to a room and board amount determined by the school.
• Student loans up to a $10,000 lifetime limit.
• Special needs services for a beneficiary with special needs.

What if your beneficiary gets a scholarship?

Fortunately, there is a scholarship exception to the 10% penalty. You can take a withdrawal from a 529 plan up to the amount of a scholarship. You will still pay taxes on the earnings, but you won’t pay the additional 10% penalty that’s usually levied on nonqualified withdrawals.

Which expenses don’t qualify?

Here are common education expenses that don’t qualify for tax-free 529 plan funds.

• Transportation and travel costs to and from campus.
• Health insurance premiums unless the premiums are required and included as a comprehensive tuition fee.
• Application and testing fees.
• Extracurricular activity fees.

What if your beneficiary doesn’t go to college?

If you saved for college, but your beneficiary doesn’t end up going, you have options.

• Withdraw the funds, pay the 10% penalty and income taxes on earnings, and the remaining funds are yours to use.
• Change the beneficiary to another qualified individual, including you, your spouse, or a member of the beneficiary’s family (spouse, in-laws, child, grandchild, sibling, niece or nephew, aunt or uncle, and first cousin).
• Roll a portion to a Roth IRA for the beneficiary based on new rules established in the SECURE Act 2.0. See this article for details on the rules.
• Pass it down to fund college for future generations. You can use these funds for future generations of family! See 529 Plans – Taxes, Estate Planning, and Funding College for more on how this can also help your estate planning goals!

With an understanding of qualifying expenses, you can build college funding into your comprehensive financial plan. The sooner you begin saving, the more time you’ll have to enjoy tax-free growth on your education funds!

A 529 plan is a college savings plan that allows individuals to save for college on a tax-advantaged basis. Every state offers at least one 529 plan. Before investing in a 529 plan, you should inquire about the particular plan and its fees and expenses. You should also consider that certain states offer tax benefits and fee savings to in-state residents. Whether a state tax deduction and/or application fee savings are available depends on your state of residence. For tax advice, consult your tax professional. Non-qualifying distribution earnings are taxable and subject to a 10% tax penalty.

Sources – Capital Group, Fidelity, Saving For College