Why a 529 Account Makes Perfect Estate Planning Sense

Why a 529 Account Makes Perfect Estate Planning Sense

September 19, 2023

Back to school season is here, and once the shopping for school supplies, clothes, and a new backpack is complete, it might be a good time to think of how your estate plan can benefit through the use of 529 College Savings Plans.

New York State’s 529 College Savings Plans can be used to pay for a beneficiary’s qualified education expenses.  The earnings in a 529 Plan grow federally tax-deferred and qualified withdrawals are tax free.  Qualified withdrawals for college expenses include tuition, certain room and board fees, and books and supplies.  Other qualified withdrawals include up to $10,000 per year for K-12 school tuition, and up to $10,000 per year for student loan repayments.

How may a 529 Plan factor into your estate plan?  A 529 Plan can be a very effective tool at reducing your potential estate tax liability through the use of the annual gift tax exclusion.

The 2023 lifetime federal estate tax exemption is currently $12.92 million, but in 2026 is scheduled to revert to $5 million absent any changes by Congress.  This potential reduction may leave many more Americans vulnerable to paying a costly federal estate tax. One way to proactively plan for this reduction is to incorporate the use of annual gifting.  Under current rules, you can make an annual gift of up to $17,000 (or a married couple can give a total of $34,000) to any person – and to as many persons as you choose – without counting against your lifetime exemption.  A gift that exceeds this threshold must be reported to the IRS and the excess applies to reduce an individual’s lifetime exemption.  Annual gifting within the threshold, therefore, is an opportunity to remove assets from your estate, without any adverse gift tax consequences.

A 529 Plan offers a unique opportunity to use the annual gift tax exclusion to your advantage.  Not only can you contribute $17,000 to a 529 Plan per year, you can also “superfund” a 529 Plan up to $85,000 in a single year (5x the annual exclusion amount) (or a married couple can give a total of $170,000 to a 529 Plan).  If you choose to superfund a 529 Plan, you cannot give more money to the same recipient within the same 5 year period without counting against your lifetime exemption.

Let us look at a scenario where a taxpayer has eight grandchildren. By law, you would be able “superfund” each grandchild’s 529 Plan by gifting a total of $680,000, tax-free ($85,000 times eight beneficiaries). Additionally, your spouse could do the same, ultimately reducing the taxable value of your estate in a single year by more than $1.3 million.

529 Plans are also unique in that they are still in your name and you can designate beneficiaries. Therefore, if for any reason a 529 Plan is no longer needed to pay for qualified educational expenses, you can terminate the 529 Plan.  Note, however, that terminating a 529 Plan returns the funds to your estate and is subject to all applicable taxes and penalties for a non-qualified withdrawal.

In light of the possible reduction of the federal estate tax exemption in 2026, you may wish to consider strategically incorporating 529 Plans in your estate plan.  A 529 Plan may not only help reduce your potential exposure to federal estate tax liability, but also gives you the opportunity to support a beneficiary’s education in a tax advantaged manner.

If you have questions or would like to discuss developing an estate plan (or reviewing an existing one), please give me or any member of our trusts and estate team a call.

Katherine Liebner  focuses her practice in the areas of estate planning and estate and trust administration. She can be reached at 716.854.4300 ext. 236 or [email protected]