By Amanda Lott, CFP, CRC, RegentAtlantic Capital
Many have heard of 529 accounts, an account that allows for tax free growth only if the funds are used to pay for college education costs. But few have heard of it potentially being used as a multi-generational vehicle to fund college education for multiple generations.
When a 529 account is established, it has an owner (typically the grandparent or the parent) and a beneficiary (the future student). The beauty of 529s for estate tax planning purposes is that while the funds are out of the owner’s gross estate, the owner still retains control over the account and can change the beneficiary if he or she desires. If the new beneficiary is a member of the family of the old beneficiary, there are no income tax ramifications of making a beneficiary change. If the new beneficiary is one or more generation below the old beneficiary, it will be deemed a gift from the old beneficiary to the new beneficiary, not from the owner to the new beneficiary. The gift will be subject to the current gift tax rules.
In 2014, an individual can gift another individual up to $14,000 annually and have it pass free from gift tax. 529 accounts have a special provision where up to five years’ worth of annual exclusion gifts can be “front-loaded” into the account. Thus, an individual could gift $70,000 into a 529 ($14,000 * 5), and if they file a gift tax return and make the five-year election, it will not be a taxable gift.
The fact that the gift to the new beneficiary is deemed to be made by the old beneficiary and not the owner can leave ample planning opportunities for families looking to fund future college education costs. For example, let’s say that Grandpa Joe has $7 million and has the financial capacity to gift assets away to his family members. Based on a net worth of $7 million, based on 2014 estate tax laws, his total estate taxes to New Jersey and the IRS would be approximately $1.039 million. Grandpa Joe’s daughter, Anna, and son-in-law George, just had twins. Grandpa Joe could put $70,000 into newly established 529 accounts for each of the twins. This would fund approximately 35 percent of future college education costs assuming that they attend a private university costing $50,000 currently and that college inflation is 5 percent. It could also save Grandpa Joe approximately $67,000 in estate taxes.
But, what if Grandpa Joe instead established a 529 for each twin ($70,000 each), one for his daughter Anna ($70,000) and one for his son-in-law George ($70,000)?
With this strategy, Grandpa Joe has removed $280,000 from his estate, which corresponds to approximately $134,000 in estate tax savings. But, how can the funds ultimately be used for the twins’ college education? Anna and George don’t need the funds to pay for their own college education, so Grandpa Joe can change the beneficiary of Anna and George’s respective plans to the twins. This is deemed to be a gift from Anna to Twin No. 1 and George to Twin No. 2. Anna and George can use the five-year election so that the beneficiary change will not create a taxable gift, assuming that they file a gift tax return for the year the beneficiary is changed. Ultimately, each twin will have $140,000 in his 529 account, which represents approximately 70 percent of future college education costs assuming that they attend a private university and that college inflation in 5 percent.[table “1” could not be loaded /]
As with any 529 establishment, Grandpa Joe should list a successor owner. This will allow ownership of the account (not to be confused with the beneficiary of the account) to be updated easily and automatically to his named successor upon his passing. If he does not designate a successor owner, the probate process or the specific 529 plan’s process will dictate the new account owner. There are no tax consequences of a new owner upon the death of the initial owner.
Grandpa Joe could do this gifting exercise again in five years. If there are assets left over in the 529s after the twins finish college, the beneficiary could be changed to another member of the family.
The above example is just one example of the many potential applications for this planning strategy. Another opportunity could be the ability to put money aside for children or grandchildren that aren’t even born yet! As always, you should consult with financial professionals before making such gifts, and we at RegentAtlantic Capital can help.
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Please remember to contact RegentAtlantic if there are any changes in your personal or financial situation or investment objectives for the purpose of reviewing our previous recommendations and services, or if you wish to impose, add, or modify any reasonable restrictions to our investment management services. A copy of our current written disclosure statement discussing our advisory services and fees is available for your review upon request. This article is not a substitute for personalized advice from RegentAtlantic. This information is current only as of the date on which it was sent. The statements and opinions expressed are, however, subject to change without notice based on market and other conditions and may differ from opinions expressed in other businesses and activities of RegentAtlantic. Descriptions of RegentAtlantic’s process and strategies are based on general practice and we may make exceptions in specific cases.
This article is based on current tax legislation. Congress may change this legislation at any time.
Please remember that RegentAtlantic does not provide tax or legal advice. Please consult with a tax or legal professional of your choosing prior to implementing any of the strategies discussed in this article.
Amanda Lott is a Wealth Advisor with RegentAtlantic Capital in Morristown. She may be reached at moc.c1508652608itnal1508652608tatne1508652608ger@t1508652608tola1508652608 or (973) 425-8420 x257.
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